What to Expect in an HMRC Tax Investigation

There are a number of reasons why your business might be the subject of a tax investigation. Her Majesty’s Revenue & Customs (HMRC) has a sophisticated range of tools at its disposal to identify businesses that are exhibiting what it deems to be risky behaviour. Commonly, it will focus on companies that are registered for PAYE and VAT, as those are two areas where mistakes are most frequently made. Investigations into corporation tax and income tax are less likely, although they can still take place if HMRC has reason to believe there may be accidental or deliberate errors and omissions on your tax returns.

As well as being caught by its own detection systems, there are also a number of other reasons why your business could be on the receiving end of an HMRC tax investigation:

  • HMRC receives a tip-off
  • You operate in a high-risk industry that routinely takes cash payments
  • There are inconsistencies on your tax returns
  • Your income and costs fall or rise dramatically
  • Your tax returns are consistently filed late
  • Your costs are above the industry average
  • Your standard of living is not consistent with your income
  • You operate in a sector HMRC has chosen to target

What is the HMRC Compliance Unit?

HMRC tax investigations are carried out either on an announced or unannounced basis by HMRC’s Compliance Unit. Two relatively new HMRC teams, the Individual & Small Business Compliance Unit and the Wealthy & Mid-sized Business Compliance Unit, have been very successful over the last couple of years at conducting investigations and recouping some of the money HMRC is owed. Many of those investigations have focused on VAT underpayments by small and medium-sized businesses.

How Will You Know You’re Being Investigated?

HMRC will have some reason to believe that tax has been underpaid by your business if it chooses to start a compliance check. One of HMRC’s compliance teams will open the investigation by sending you an ‘Information Notice’, which will ask you to answer a number questions and provide relevant information. If those answers are satisfactory, the investigation may not go any further. If they’re not, an investigation could be launched.

How Far Back can HMRC Investigate?  

An HMRC investigation will usually start with an enquiry into your most recent tax return. However, the investigation team could also choose to investigate your business’s historical tax affairs if it uncovers evidence that suggests your company has:

  • Underpaid tax
  • Received too much tax relief
  • Made an incomplete disclosure and is guilty of fraudulent or negligent behaviour

If HMRC chooses to delve into your historical tax affairs, it will do so using a process called a ‘Discovery Assessment’, and will send you a letter to inform you of the process. How far back HMRC can investigate depends on the type of error that was discovered during the initial investigation:

  • If the error was due to an innocent mistake, HMRC can go back 4 years;
  • If the error was due to your negligence, HMRC can go back 6 years;
  • If the error was a deliberate attempt to avoid paying tax, HMRC can go back 20 years.  

What are the Penalties for Tax Evasion?

The penalties for failing to file tax returns and make tax payments on time can be substantial. There are also penalties if you make careless mistakes on your tax returns. However, the most serious penalties are handed out to those who make a deliberate attempt to avoid paying tax and try to conceal it. Penalties are charged on a sliding scale based on the reason why the error occurred. You could receive:

  • A penalty of up to 30 percent of the tax due if you make a careless mistake when completing a return or fail to submit a return at all;
  • A penalty of up to 70 percent of the tax due if the error is deliberate;
  • A penalty of 100 percent of the tax due if the error is deliberate and you try to conceal it.  

You can reduce the penalty you’re likely to receive by disclosing errors you have made before they’re spotted by HMRC, handing over your records to the investigating officers and helping to calculate the tax due.

The most serious cases of tax evasion and tax fraud can lead to criminal prosecution. Penalties can be anything up to 200 percent of the tax due and a fine of up to £5,000 for income tax evasion and £20,000 for VAT evasion. Culprits can also receive a maximum jail sentence of up to seven years.

Under the Criminal Finances Act 2017, you could also be liable if an employee or an associated individual evades tax while providing services on the business’s behalf. Businesses that fail to ‘prevent the facilitation of tax evasion’ can receive significant financial penalties and jail time.

Can HMRC Check Your Bank Account?

As the situation stands, HMRC has the power to request relevant information from taxpayers to check that they’re paying the correct amount of income tax, corporation tax, capital gains tax and VAT. You can appeal this notice, but if HMRC digs in, you will have to be prepared to explain why you’re not willing to provide information such as bank statements to HMRC at a tax tribunal.

Relevant information is often held by third parties such as banks, accountants, lawyers and estate agents. HMRC can issue a ‘Third Party Notice’ to access the information held by third parties if it can prove the documents are ‘reasonably required’. HMRC will have to get the permission of the taxpayer or a tax tribunal before it can access the requested information.

However, that all could be set to change. HMRC recently proposed to remove these safeguards, with tax officials saying the current process is bureaucratic and too resource intensive. If the proposal was passed, HMRC would have the power to check your bank account and access financial information without your knowledge.

How do You Report Someone to HMRC for Tax Fraud?

If you think someone is evading tax or committing tax fraud, you can report them to HMRC here. Importantly, you should not try to find out more about the tax evasion or tell anyone you are making a report.

Need Advice?

If you’re worried about tax liabilities and fear your business could be insolvent, please contact our team for a free, confidential, no-obligation discussion about your circumstances. We can help you find the right resolution for you and your business while meeting the requirements of HMRC.