NAO’s winter of discontent over HMRC tax relief administration should not threaten reliefs

NAO’s winter of discontent over HMRC tax relief administration should not threaten reliefs

Tue 02 Dec 2014

Some have greeted National Audit Office (NAO) report “The effective management of tax reliefs”, issued on 21 November as if it creates a threat to certain tax reliefs, including entrepreneurs’ relief (ER) from capital gains tax (CGT).

That is not what the report says: it focuses on how HMRC goes about policing tax reliefs and reporting their effectiveness and susceptibility to abuse. The NAO’s terms of reference, derived from an earlier, more general review of the opportunities and risks that tax reliefs present and the way they are designed and implemented by the Treasury and HMRC. The NAO studied 10 out of the 398 reliefs listed on HMRC’s website, selected because they represent reliefs intended to have social or economic consequences. The report highlights income tax share loss relief and ER in particular and draws attention to their potential to cause costs in tax lost if the cost and benefit of reliefs and their use are not actively monitored:

  • for abusive, artificial claims as found in the case of share loss relief; and
  • more prosaically, simply to find out if the relief is achieving its objective, a particular issue with entrepreneurs’ relief, the tax “cost” of which is estimated to be three times as great as HMRC expected when it was introduced.

NAO comes to raise issues not to bury HMRC

The stated purpose of the review was to identify through the selected examples the issues HMRC have to contend with and the actions they take as opposed to making sweeping assessments of HMRC’s general approach to tax administration. It also acknowledges that HMRC’s primary considerations are with ensuring accuracy and compliance and not with broader policy issues, with the result that understanding the cost of any particular relief is not a priority for HMRC who accordingly do not hold consistent or comprehensive data on the costs of reliefs, even on reliefs that entail high costs or risks of abuse.

The pound of flesh

Every tax relief has a cost which is acceptable provided that it provides commensurate benefit and is in line with expectations. In 2006/07 share loss relief claims spiked at £1.2bn, up by £815m but that spike was not identified until 2013, outside the normal window for enquiring into 2006/07 tax returns, which closed on 31 January 2009. Such a spike may be due to normal business conditions but that is unlikely. HMRC are enquiring into share relief claims for 2006/07 totalling £964m and the implication is that share loss relief has been used for tax avoidance purposes and not for its intended economic purpose of reducing the risks faced by bona fide investors. In other words enabling claims not only for the legitimate pound of flesh but also much more than the Merchant of Venice’s “jot of blood”.

Much ado about . . . what precisely?

The NAO report highlights the fact that the cost of ER at around £2.9bn in 2013/14 is three times as great as HMRC’s estimate of £9bn but the more significant message is that there is no valid basis for comparison.

The NAO does not conclude that the reliefs themselves are not value for money; if anything the conclusion is more worrying. The Head of the NAO is quoted as saying:

“HM Treasury and HMRC do not keep track of tax reliefs intended to change behaviour, or adequately report to Parliament or the public on whether tax reliefs are expensive or work as expected. We found some examples where HMRC and HM Treasury proactively monitored and evaluated tax reliefs, but in general the Departments do not test whether their aims for the reliefs are being achieved. Until they monitor the use and impact of tax reliefs, and act promptly to analyse increases in their costs, HMRC and the Treasury’s administration of tax reliefs cannot be value for money.”

This makes the point that the Treasury and HMRC, jointly and severally, do not have any valid basis for assessing the effectiveness of tax reliefs or their susceptibility to abuse because there is no systematic, consistent monitoring in place.  Of all the reliefs considered by the NAO only one is regarded as having been adequately costed and monitored: R&D tax credits. Forecasts and outcomes of the effects of reliefs, both costs and benefits, are unreliable to say the least.

All’s Well That Ends Well: the NAO recommendations

A cursory reading of some commentaries would suggest that the NAO proposes scrapping tax reliefs that are not good value. That is not their recommendation and the report must not be used as a pretext for withdrawal of any relief. The message is entirely positive and constructive and begs the question “Why weren’t the Treasury and HMRC doing these things already?”

The recommendations are to HMRC and the Treasury and it is implicit that the two departments need to work together to:

  • follow the lead of those countries that have already developed best practice for administering and reporting on tax reliefs;
  • publish data on the cost and effectiveness of significant tax reliefs;
  • track actual costs against forecasts;
  • report annually to Parliament on the cost and impact of high-risk reliefs; and
  • carry out an exercise to analyse behavioural reliefs and identify and explore patterns and risks.
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