HMRC Tax Investigations: What You Need to Know
An HMRC tax investigation is a process where HM Revenue and Customs (HMRC) checks a taxpayer's records to ensure they are paying the correct amount of tax. This can happen to individuals, businesses or both. HMRC uses sophisticated data mining tools to spot unusual activity in tax records that could trigger an investigation. Common triggers include submitting incorrect figures on a tax return, working in an industry seen as high-risk by HMRC, or someone alerting HMRC to unusual activity.
If you are selected for an HMRC tax investigation, it's important to understand the process and your rights. This blog will provide an overview of HMRC tax investigations, including the types of investigations, what triggers them, how far back HMRC can investigate and what happens during the process. We'll also cover penalties for non-compliance and how to challenge an HMRC decision.
What is an HMRC tax investigation?
An HMRC tax investigation is a process where HM Revenue and Customs (HMRC) reviews a taxpayer's records to ensure they are paying the right amount of tax. HMRC may investigate various aspects of a taxpayer's affairs, such as their tax returns, accounts, PAYE records or VAT returns.
The goal is to verify that the correct taxes are being paid and identify any irregularities or errors. If issues are found, HMRC can impose penalties and require the taxpayer to pay additional tax. Understanding the tax investigation process and one's rights is crucial for taxpayers selected for an HMRC review.
Types of HMRC tax investigations
HMRC tax investigations fall into three main categories, each serving a different purpose and level of scrutiny. Understanding these types can help taxpayers prepare and respond appropriately.
Full enquiry
In a full enquiry, HMRC will review all of the taxpayer's records. This type of investigation typically occurs when HMRC believes there is a significant risk of error in the submitted tax returns.
-
Scope: Comprehensive examination of all financial records, including income, expenses, and any tax returns filed.
-
Duration: These investigations can be lengthy, often taking over a year to complete, as HMRC delves deeply into the taxpayer's financial history.
-
Outcome: Depending on the findings, HMRC may determine that additional tax is owed, or they may find no discrepancies.
Aspect enquiry
An aspect enquiry focuses on specific areas of concern within a taxpayer's accounts. This type of investigation is less extensive than a full enquiry but can still lead to significant implications.
-
Scope: HMRC targets particular aspects, such as discrepancies in income reporting or unusual expense claims.
-
Duration: Typically shorter than a full enquiry, lasting around three to six months.
-
Outcome: If HMRC finds issues in the specific areas being reviewed, it may escalate to a full enquiry or result in additional tax assessments.
Random Check
A random check involves HMRC selecting a taxpayer’s records for investigation without any specific concerns or triggers.
-
Scope: These checks are often part of HMRC's efforts to ensure compliance across various sectors and do not indicate wrongdoing.
-
Duration: Random checks can vary in length but are generally quicker than full enquiries.
-
Outcome: These checks often conclude with no action required if the taxpayer's records are in order.
Each type of investigation demands careful attention and often professional guidance to navigate effectively. Understanding these categories can empower taxpayers to respond appropriately and minimise potential repercussions.
What triggers an HMRC tax investigation?
HMRC tax investigations can be triggered by various factors that raise red flags in a taxpayer's records. Understanding these triggers can help individuals and businesses minimise their risk of scrutiny. Here are the common triggers that may lead to an HMRC tax investigation:
-
Submitting Incorrect Figures on a tax return: Errors in tax returns, whether intentional or accidental, can prompt HMRC to investigate. This includes underreporting income or overstating expenses.
-
Working in a high-risk industry: Certain sectors, such as construction or cash-based businesses, are more likely to attract HMRC's attention due to the higher potential for tax evasion.
-
Tip-offs to HMRC: Investigations can also be initiated based on information received from third parties. This could be from disgruntled employees, competitors, or even anonymous tips.
-
Inconsistencies between tax returns: Significant discrepancies between different tax returns, such as a sudden drop in income or unusual spikes in costs, can trigger an investigation. HMRC closely monitors these variations.
-
Filing tax returns late: Consistently late submissions can indicate poor record-keeping or potential dishonesty, prompting HMRC to take a closer look at the taxpayer's affairs.
-
Accounts not matching industry norms: If a business's financial results deviate significantly from industry standards, it can raise suspicions. For example, reporting very low profits while operating in a profitable sector may lead to further investigation.
By being aware of these triggers, taxpayers can take proactive steps to ensure their records are accurate and compliant, reducing the likelihood of an HMRC investigation.
How far back can HMRC investigate?
The duration HMRC can investigate your tax affairs largely depends on the nature of your tax behavior. Understanding these time limits is crucial, as they dictate how long HMRC can scrutinise your records and potentially impose penalties.
-
Normal behaviour (4 Years): If HMRC considers your tax behavior to be normal, they can investigate your records for up to four years. This typically applies to individuals and businesses that have filed their tax returns accurately and on time, without any significant discrepancies.
-
Careless behaviour (6 Years): If HMRC finds evidence of careless mistakes—such as minor errors in your tax returns or omissions—they can extend their investigation period to six years. Careless behaviour might include failing to keep proper records or miscalculating figures, but it does not imply any intention to deceive.
-
Deliberate Behavior (20 Years): In cases where HMRC suspects deliberate tax evasion or fraud, they can investigate your records for up to 20 years. This applies to situations where there is clear evidence that a taxpayer has intentionally misreported income or concealed information to avoid paying the correct amount of tax. Deliberate behavior can lead to severe penalties, including substantial fines.
Understanding these time limits can help you prepare and respond appropriately if you are under investigation. It’s essential to maintain accurate records and seek professional advice if you suspect any issues with your tax filings.
What Happens during an HMRC tax investigation?
When HMRC launches a tax investigation, they will audit the taxpayer's accounts and ask questions to determine if the correct amount of tax has been paid. The process typically involves:
-
Initial notification: You will receive a letter or phone call from HMRC outlining the investigation's purpose and what they intend to check, such as your tax returns or business accounts.
-
Audit of accounts: HMRC will audit your financial records, which may include bank statements, invoices, and expense receipts. They aim to verify the accuracy of your tax submissions.
-
Questions and clarifications: Expect to answer a series of questions from HMRC regarding your financial activities. This helps them understand your tax situation better.
-
Home or office visits: HMRC may request to visit your home, business, or accountant's office. You can have an accountant or legal advisor present during these visits for support.
-
Documentation review: If you use accounting software, HMRC can request direct access to your records to ensure everything is in order.
-
Penalties for non-compliance: If you fail to provide requested information or refuse a visit, you may face penalties unless you have a valid reason for non-compliance.
-
Outcome: After the investigation, HMRC will inform you of their findings and any tax adjustments, including potential penalties or refunds, if applicable.
Penalties for non-compliance
HMRC takes tax compliance seriously and imposes penalties for both careless and deliberate irregularities in tax returns. Understanding these penalties can help taxpayers navigate the consequences of non-compliance.
-
Careless irregularities: If HMRC determines that a taxpayer has made a careless mistake, penalties can be applied. These mistakes might include simple errors in calculations or failing to keep adequate records. Fortunately, penalties for careless behavior can often be suspended if the taxpayer demonstrates a willingness to cooperate and correct the mistakes. The aim is to encourage compliance rather than punish minor errors.
-
Deliberate irregularities: When HMRC identifies deliberate attempts to evade tax, the penalties become significantly harsher. This includes knowingly submitting false information or hiding income. In such cases, penalties can range from 35% to 200% of the unpaid tax. The severity of the penalty often depends on the circumstances and the level of cooperation from the taxpayer during the investigation.
Taxpayers should be aware that these penalties can have serious financial implications. Therefore, maintaining accurate records and being honest in tax submissions is crucial to avoid these penalties and ensure compliance with HMRC regulations.
Challenging an HMRC decision
If you disagree with HMRC's decision, you can appeal. The appeals process typically involves three stages:
-
Statutory review
-
Agree with your appeal and amend their decision
-
Confirm their original decision
The first step is to request a statutory review by HMRC's Solicitor's Office and Legal Services. This is an internal review conducted by an HMRC officer who was not involved in the original decision. HMRC will either:
-
Alternative dispute resolution (ADR)
-
Appeal to the tax tribunal
-
You must appeal within 30 days of HMRC's decision letter
-
You'll need to pay the disputed tax, although you can apply to postpone payment in some cases
-
The tribunal's decision on matters of fact is normally binding on both parties
-
If you disagree with the tribunal's legal decision, you may be able to appeal further to higher courts
You'll have 30 days from the date of HMRC's new decision to appeal further if you still disagree.
If the statutory review doesn't resolve the issue, you can try Alternative dispute resolution (ADR). This is a voluntary process where an independent HMRC facilitator helps you and HMRC find a solution. ADR can be used alongside the appeals process.
If you still can't agree your position with HMRC after the statutory review or ADR, you can appeal to the First-tier Tax Tribunal as a final resort. The tribunal is independent from HMRC and will make a decision about your case.
Some key points about appealing to the Tax Tribunal:
Remember, if you take your case to the tribunal or higher courts, you may have to pay HMRC's costs and your own, so consider this carefully before proceeding.
The appeals process can be complex, so it's advisable to seek professional advice from a tax specialist to give your case the best chance of success.
Tips for surviving an HMRC tax investigation
To make an HMRC investigation as painless as possible, consider the following tips:
-
Keep your business books up-to-date and error-free: Regularly update your financial records to ensure accuracy. This helps you quickly identify any discrepancies and respond to HMRC inquiries without the stress of searching for documents.
-
File tax and VAT returns on time: Timely submission of your tax returns is crucial. Late filings can trigger an HMRC review, so staying organized and meeting deadlines will help you avoid unnecessary scrutiny.
-
Maintain copies of invoices and receipts: Keep thorough records of all transactions, including invoices for income and receipts for expenses. This documentation is essential during an investigation.
If you're facing an HMRC tax investigation or have concerns about your records or tax obligations, don't hesitate to seek professional help. At dns tax, our team of tax experts can guide you through the complexities of HMRC investigations and ensure you comply with all regulations.
HMRC investigations can be stressful and time-consuming, but with our assistance, you can navigate the process with confidence. Our experienced advisors will review your records, identify any potential issues, and work closely with HMRC on your behalf to resolve the investigation efficiently.
Don't wait until it's too late. Contact us today at 0333 2422 572, email dnstax@dnsaccountants.co.uk, or book a free consultation. Our friendly experts will be happy to discuss your specific requirements and provide tailored solutions to protect your business and ensure you pay the right amount of tax.
Siddharth Agarwal
I am a Chartered Tax Advisor (OMB) and ACCA. I have 9+ years of experience in owner-managed business taxation issues, company reorganisations, property taxation, and succession planning.
I also work with private clients on bespoke tax planning strategies for trusts, residence status, and non-residents.
I aim to fulfil my professional duties towards my clients and keep them satisfied, my utmost priority. I believe in establishing and maintaining businesses and personal relationships as the key to mutual growth.