Notifying uncertain tax treatment: second consultation

Update: For a full review of the government’s proposals, see our article Notification of uncertain tax treatment by large businesses: a review.

The government has published a second consultation document on the introduction of a requirement on large businesses to report uncertainties in their filing position to HMRC, together with a response document to the original consultation from March 2020. These documents set out some important changes to the scope and design of the proposed measure, including an increase in the de minimis and a restriction in the taxes covered. In addition, the government will not make an individual within a corporate body responsible for compliance and potential penalties for failure to report.

The second consultation also sets out the measures which the government intends to take to ensure that the measure is less ambiguous than originally proposed. These include a set of notification "triggers" which are more objective and detailed than the original test. These include circumstances where the tax treatment does not accord with published HMRC guidance, where it differs from previously applied treatment, where it is novel as well as where an accounting entry has been provided for the uncertainty.

The changes will be broadly welcomed, both for providing more certainty and limiting the scope of the proposed measure. However, in the absence of any formal clearance procedure, the smooth operation of the notification requirement will very much depend on the relationship between a large business and its HMRC Customer Compliance Manager (CCM) (where it has one). For businesses that do not have a CCM, the consultation promises that HMRC will put in place an equivalent process, but no details have been provided as yet.

The government intends that the notification requirement will be included in Finance Bill 2021/22 and apply to transactions in returns due to be filed after April 2022.

Background

In March 2020, the government published a consultation document on the introduction of a requirement for large businesses to notify to HMRC uncertainties in the tax treatment of their tax filing position. The consultation, "Notification of uncertain tax treatment by large businesses", set out a proposal for all large businesses to be required to notify HMRC of any tax position that they take which HMRC is likely to challenge, subject to a £1m de minimis. The proposal was motivated by the need to reduce the "legal interpretation tax gap" ie that part of the tax gap arising from disputes between HMRC and taxpayers where each take a different view of the correct tax treatment but where there is no tax avoidance. For further details, see our article, Notification of uncertain tax treatment by large businesses.

The consultation attracted much criticism for the level of uncertainty inherent in the proposed reporting requirement. The scope of the requirement to report was clearly subject to a great deal of ambiguity and, in principle, required a judgement as to what action HMRC might seek to take in relation to any tax position - covering the full range of taxes.

In November 2020, however, the government accepted that the scope of the requirement needed to be much more clearly defined, albeit that it remained committed to introducing the measure amended form. At the same time, the government announced a 12 month delay to the implementation of the measure to allow time for further consultation and work on the scope of the measure.

Second consultation

The government has now published both a response document to the original consultation and a second consultation document seeking further input on various issues relating to the design and scope of the proposed measure. However, despite accepting some criticism of the original proposal, the government remains committed to the introduction of this measure and has taken pains to ensure that the justification for the measure is more clearly articulated in this second consultation.

The consultation explains that HMRC estimates that the majority of the legal interpretation gap arises from disputes between HMRC and large businesses. The measure aims to highlight and clarify legal interpretation differences earlier, either through notification, or by encouraging more businesses to discuss areas of uncertainty with HMRC before they submit their returns, thereby negating the requirement to notify. In particular, the measure is not intended to promote any assumption that HMRC's interpretation is correct. The measure aims to ensure that HMRC is aware of all cases where a large business has adopted a treatment that is contrary to HMRC's known position and to accelerate the point at which discussions occur on uncertain treatment.

Scope: large businesses

The proposed measure remains aimed at large businesses and there has been no change to the proposed definition in this regard. Businesses will fall within scope if they have either or both of:

• A turnover above £200m.
• A balance sheet total over £2bn.

It is intended that the notification measure will apply to partnerships and LLPs that satisfy the above criteria, as well as corporates.

The government recognises that an asset manager business's turnover and balance sheet threshold calculation should not include the attributes of fund portfolio companies. In addition, the government also accepts that there will be some entities that will satisfy the turnover and balance sheet criteria but are not intended to fall within the requirement to notify, for example, collective investment schemes. These will be excluded from the scope of the legislation.

Scope: taxes

The government has listened to feedback and decided to limit the scope of the measure, at least initially. The measure will now only apply to corporation tax, income tax (including PAYE) and VAT. The government believes these taxes make up the majority of the large business share of the legal interpretation tax gap and limiting the scope of the measure will reduce the administrative burden on large businesses without unduly affecting the efficacy of the measure.

Definition of uncertain tax position

Perhaps the major concern and criticism of the original proposal was that the proposed definition of an uncertain tax treatment - being one that HMRC may challenge or is likely to challenge - was too subjective. The government has accepted this criticism and, instead, is proposing a series of more objective triggers, where, subject to any rules regarding exemptions or thresholds, if any trigger is satisfied, the business must notify HMRC. The proposed triggers include the following:

• Where the tax treatment results from an interpretation that is different from HMRC's known position: This would capture tax treatments taken that are not consistent with HMRC's guidance or other material in the public domain, or a position that is inconsistent with HMRC's view, as established in dealings between the business and HMRC.

• Where the tax treatment was arrived at other than in accordance with known and established industry practice: Many industries have an established industry-wide approach to treating certain transactions. This is often published in HMRC manuals or guidance provided by trade representative bodies. A notification would be required where a business adopts an approach that is not consistent with the industry-wide approach. This trigger would not be met where there is no published (either by HMRC or a representative body) industry-wide approach.

• Where it treated in a different way from the way in which an equivalent transaction was treated in a previous return and the difference is not the result of a change in legislation, case law or a change in approach to accord with HMRC's known position: HMRC explain that this trigger would require notification when a business alters a previously used treatment, where that change is not due to a change in HMRC's known position. Whilst there is some overlap with trigger (a), this trigger would also capture other uncertain treatments where HMRC's position is not known. HMRC provide as an example a business which originally treats a supply as two separate supplies with different VAT rates but decides to treat later supplies as a single supply with a single VAT rate.

• Where the tax treatment is in some way novel such that it cannot reasonably be regarded as certain: A notification would be required where there is a new or novel product, transaction or business structure where there are various ways that it can be treated and HMRC's position is not known. HMRC give as an example a new food type or the creation of a UK branch of an overseas entity to avoid the need to reverse charge services from overseas.

• Where the tax treatment is one in respect of which a provision has been recognised in the accounts of the company or partnership, in accordance with GAAP, to reflect the probability that a different tax treatment will be applied to the transaction: This trigger is intended to require notifications in situations where IFRIC23, or other relevant accounting standard, requires the business to make a provision to recognise the uncertainty in the tax treatment.

• Where the tax treatment results in either: a deduction for tax purposes greater than the amount incurred by the business, or income received for which an equivalent amount is not reflected for tax purposes, unless HMRC is known to accept this treatment.

• Where the tax treatment has been the subject of professional advice: which is contradictory, in terms of tax treatment, to other professional advice received, or which they have not followed for the purpose of determining the correct tax treatment of a given transaction. The government will not apply this aspect to advice covered by legal professional privilege however.

For these purposes, HMRC's "known' position or interpretation" would include something from:

• guidance, statements, court decisions or other material (whether of HMRC or a Minister of the Crown) that is in the public domain; or
• dealings, in writing, with HMRC by or in respect of the company or partnership in question.

For the purposes of these rules, a large business will make a decision about whether a tax treatment is uncertain at the time it is required to submit a notification. If a tax treatment becomes uncertain after that date (perhaps due to changes in case law) there would not be a requirement to revisit it, unless the tax treatment is ongoing, when a notification would be required in a subsequent year or period.

De minimis

In the previous consultation, the government proposed that it would only be necessary to notify uncertain tax treatments which, individually or combined, resulted in a difference between the customer's calculation of their tax liability and HMRC's calculation of their tax liability, of more than £1m. However, following feedback to the 2020 consultation, the government now proposes to increase the threshold to £5m. This should help to ease the administrative burden on businesses.

The 2020 consultation also considered whether the threshold might be based on an individual materiality threshold for each business and several respondents agreed that this approach would work best. However, the government has concerns with adopting a materiality threshold, in that materiality is not a common concept in UK tax legislation and it may not be equitable to apply a different numerical threshold for different businesses depending on their size. Nevertheless, the consultation confirms that the government will explore the possibility of a materiality threshold further.

The consultation also considers the method to calculate whether the threshold has been exceeded and suggests a two-step process.

• Step 1: Is the total tax impact of the tax treatment £5m or above? If Step 1 results in the threshold being exceeded, then consider step 2. No notification is required when step 1 does not exceed £5m.
• Step 2: If the (biggest) tax difference between the customer's treatment and HMRC's expected treatment is more than the £5m tax threshold, then a notification is required, otherwise it is not. For example, if the customer claimed a deduction of £30m, but it is known that HMRC's guidance would lead to only a £25m deduction, then there would be no need to notify as the tax on the difference would be under the threshold (£5m difference x 19% = £0.95m). Where HMRC's position is unknown, or the customer has not calculated the difference between their position and HMRC's, then they may rely on the Step 1 test alone.

It is proposed that the same or similar products, or the same or similar transactions, will be amalgamated when calculating whether the threshold is exceeded. With a new product for which there is no clear treatment, the first year of sales may not produce a tax difference of more than the threshold. In subsequent years, the threshold may be exceeded but the product is no longer new or novel. However, a new product in this situation could still lead to a notification requirement, for example, where the treatment resulted from external advice (or following in-house analysis) where that advice indicated that there were several potential tax treatments available, and no treatment was certain.

Exceptions

Anything disclosable under a different legislative requirement, will not need to be notified to HMRC under this requirement. In addition, many large businesses already have discussions with HMRC regarding areas of uncertainty. If HMRC is already aware of the uncertainty, and how the business plans to treat it for tax purposes, the business will not be required notify the treatment, unless the business treats the transaction contrary to HMRC's recommendation. Such discussions would usually be with the large business's CCM. However, the government recognises that not all affected businesses will have a CCM and so that such businesses are not disadvantaged, explains that HMRC will provide a method for these discussions to occur for businesses without a CCM.

Similarly, banks that are signatories to the Banking Code of Conduct will not be required to notify uncertain tax treatments that they discuss with HMRC under the code.

Responses to the 2020 consultation suggested utilising the existing Business Risk Review (BRR+) process to exclude businesses from the requirement to notify where they have a low risk rating. Whilst the government considers that there are challenges with this approach, the consultation indicates that further consideration will be given to this option, including whether there is an objective alternative that could exempt low-risk businesses.

In relation to transfer pricing cases, the consultation accepts that there is a balance to be struck in framing an obligation which would not create more uncertainty for businesses, leading to unnecessary notifications. The consultation proposes that the obligation to notify uncertain matters relating to the pricing of related party transactions (either in the form of entries in the companies' accounts or adjustments in companies' returns/computations) could be removed in certain cases.

Administrative features

The 2020 consultation proposed that the notification should be a single, annual process which encompasses all of the relevant taxes and would be required when the SAO certificate is due. However, based on responses, the government now proposes that a notification will be required separately for each of the relevant taxes. In addition, the proposal is now to require notification when the relevant return is due to be filed. For non-annual returns, the government proposes to align the requirement to notify with the date when the last relevant return for the financial year in question is due to be filed.

The government also proposes a group notification option in respect of VAT. Such a notification would exclude tax neutral inter-entity transactions. The same could apply to direct taxes with group companies.

The previous consultation proposed potential penalties of £5,000 on the entity for failing to provide HMRC with details of the person in the organisation responsible to notify and a £5,000 penalty on the person responsible to notify, where they fail to do so. Following responses to the 2020 consultation, the government now proposes to only charge a penalty on the large business to which the failure to notify relates. A penalty will not be charged on an individual, except in circumstances where the failure to notify relates to a partnership and the uncertainty is in respect of the partnership return. Accordingly, it will not be necessary to a large business to identify the person responsible for notifying.

Comments

The consultation is open for responses until 1 June 2021 and these may be sent to: uncertaintaxtreatmentconsultation@hmrc.gov.uk.