GENERAL DECLINE – HMRC AND R&D TAX RELIEF ENQUIRIES
This article appeared in Taxation Magazine, 2nd May 2024. The author grants copyright and an exclusive licence to LexisNexis
The infinite phone scroll is everywhere, and its lure is almost irresistible. Countless hours lost in the ether. Rarely of any meaningful use, it can occasionally provide a spark of inspiration. During a recent evening scroll, the Reddit algorithm had decided that the British mentality towards complaining would be of interest to me. For once, the algorithm was right. The next 20 minutes were spent sifting through dozens of opinions on the British reluctancy to complain. One particular comment caught my eye:
‘We put up with substandard, or even downright criminal behaviour, without complaint by those called the “silent majority”. If we wish to see our country climb out of the cesspit it has sunk in to, we ALL need to complain loudly when things are truly wrong.’
The perceived decline of the UK is outside of the scope of this article. However, HMRC is one of a series of institutions that make up the UK state apparatus. How these institutions perform and interact with individuals will influence the general mood of the populace. Dysfunctional state institutions will lead to unhappy citizens. While the Reddit poster might not have had HMRC specifically in mind when furiously tapping away, members of the tax and accountancy profession would undoubtedly identify HMRC’s performance when considering ‘the general decline of things in the UK’.
The administration of compliance checks on research and development (R&D) tax relief claims is an area of taxation which has come under scrutiny in recent months and years. By now, the story is well known. Aggressive, sales orientated ‘advisers’ push definitions of qualifying R&D to absurd limits. The relief’s cost to the exchequer spirals out of control. The crackdown arrives. Genuine claims are thrown in the same pile as poor quality ones during HMRC compliance checks. Cue outrage and disbelief.
Have things sunk to the ‘cesspit’ levels referenced by the Reddit poster? I recently exchanged emails with a trusted adviser in the sector. He commented that the last 18 months of R&D compliance checks was ‘the most egregious mishandling of taxation, the likes of which have not been seen in the last 30 years’.
No one with a shred of credibility in the R&D tax advisory market can argue against HMRC’s decision to target R&D tax claims. For years, many advisers talked privately in hushed tones about the problems they were witnessing. It wasn’t until the start of the current decade that these concerns were made public. The year 2020 saw a rush of articles, LinkedIn posts and online statements about the obvious problems in the market. I jumped on the bandwagon, and penned ‘Wild West?’, Taxation, 24 September 2020.
This article bemoaned HMRC’s lack of resources to combat error-ridden and questionable claims. My article also considered what a shift in HMRC policy would mean for the future of the relief. I argued ‘it would be Pyrrhic victory if increased HMRC resources led to a reduction in poor quality claims but discouraged genuine claimants from the scheme out of fear of a costly enquiry’.
Sadly, this concern has become a reality. Fast forward four years and the topic of conversation among advisers in this sector is no longer poor-quality claims. Instead, the focus is almost entirely centred on HMRC’s decision to employ – using its own term – a ‘volume approach’ to enquiries. Many will be familiar with HMRC’s volume approach in its total disregard for what actual R&D has been undertaken. ‘The claim is not valid’ is the starting position of HMRC, regardless of the work performed. Military technologies to combat the threats of the 21st century are treated with the same disdain as new pizza toppings and cocktail menus. Ellen Milner, director of public policy at the Chartered Institute of Taxation, recently wrote to HMRC expressing concern at the way R&D enquiries are being conducted. Her letter talks of the ‘collateral damage’ caused by HMRC’s volume approach. The letter points out that ‘there are a large number of valid claims, and some that are more nuanced and require specialist consideration, that are being rejected or withdrawn’.
We have noted several examples of staggering incompetence on HMRC’s behalf which has led to great frustration for the taxpayer. Some examples are borderline vexatious, and hint at intentional acts designed purely to stifle and frustrate. This article will highlight several examples of such conduct.
Out of time
In November 2023, we advised a client that had received an R&D enquiry for its 31 December 2020 R&D tax relief claim. The company had filed its tax return (including R&D claim) in December 2021 but had then made an amendment to this return in December 2022. The amendment made no alteration to the R&D claim.
For those well-versed in HMRC’s time limits for opening an enquiry, FA 1998, Sch 18 para 25(2) states:
‘If the notice of enquiry is given-
a) as a result of an amendment by the company of its return, and
b) at a time when it is no longer possible to give notice of enquiry under paragraph 24(2)
the enquiry into the return is limited to matters to which the amendment relates or which are affected by the amendment.’
Paragraph 25(2) is unambiguous and there can be no doubts as to its meaning. HMRC was many months out of time to open an enquiry into the R&D claim yet chose to issue a notice of enquiry which asked for information about the claim. It is inconceivable that this action was an honest mistake. Legislation concerning HMRC’s time limits in which it can open an enquiry are clearly set out in statute. HMRC intentionally acted beyond its statutory powers, and had the client not sought professional advice on the matter, it would likely have been subjected to an unfair and costly compliance check that HMRC had no statutory right to carry out.
In this example, HMRC wrote back to the client, admitting that it was out of time. It then immediately opened an enquiry into the later accounting period.
I am also aware that, in cases where HMRC has acknowledged it is out of time, the use of FA 2008, Sch 36 has been employed in an attempt to obtain information. Anecdotal evidence to date indicates this has been unsuccessful.
Errors contained in notice of enquiry
In January 2023, we were approached by a company which had received a ‘double enquiry’ from HMRC.
HMRC’s opening letter and information request referred to the accounting periods ending 31 December 2020 and 31 December 2021. Two notices of enquiry were also sent to the client. However, both stated that HMRC wished to open a compliance check into the 31 December 2021 accounting period, although it was safe to assume one of the notices should have stated 2020.
The 2021 return was out of time by approximately six weeks. HMRC had opened the enquiry under FA 1998, Sch 18 para 24(1) but this was not valid, for the simple reason of being six weeks late.
For the 2020 return (which was an amendment), HMRC had until 31 January 2024 in which to open a valid enquiry. However, as no valid notice of enquiry had been sent (remembering that both notices stated 2021), HMRC missed its 31 January deadline.
A letter was sent to HMRC, explaining its errors but no response has been forthcoming. For an organisation so intent on establishing careless behaviour, the irony could not be ignored.
Changing the scope of the enquiry
In October 2023, a client approached YesTax as it had received an enquiry letter into the 31 December 2021 R&D tax relief claim.
HMRC’s opening letter requested information about all 12 projects which were included in the claim. This was despite the submitted R&D report explaining each project in some detail. We duly responded, providing further information over and above what was contained in the original report. Six patent applications were also provided as part of the initial response. Given the number of projects involved, the exercise was a time-consuming and costly exercise for the client.
Cue bewilderment when HMRC’s response to our initial letter stated: ‘As you carried out over ten projects in the relevant accounting period, we do not need the information below about all of these projects. We only need you to describe those projects which account for at least 50% of the total expenditure, with a minimum of three projects described.’
HMRC suddenly appeared to be disinterested in (up to) nine of the 12 projects which formed the claim. Why was the client initially asked for information about 12 projects, only for HMRC to change its view and subsequently ask for projects which account for just 50% of the total claim expenditure? The time and effort spent in gathering information for 12 projects was not insignificant but subsequently appeared to be wasted effort.
It can be assumed that given the volume of information provided (12 projects), HMRC was overwhelmed, and opted to scale down the enquiry. In our letter, we had asked for any further questions to be specific to the points put forward. This, of course, would require HMRC to study and interrogate a substantial amount of information. The past 18 months have shown HMRC is unwilling to do this.
Pausing the enquiry
In November 2023, YesTax was approached by a client that had received an enquiry notice into the 31 December 2021 R&D tax relief claim. Correspondence was exchanged with HMRC, which included a 34-page reply to HMRC’s initial (standard) opening letter.
After a further round of correspondence was exchanged, HMRC wrote to the client in March 2024, informing them that the 31 December 2021 enquiry was being ‘paused’ and that an enquiry into the later period (31 December 2022) was being opened. HMRC stated that the enquiry into the 2022 claim would help it to ‘complete the full check for both accounting periods together’.
At this point, the enquiry into the 2021 claim had been ongoing for over five months. The tax at stake was material to the client and was causing a significant amount of uncertainty. HMRC’s decision to pause the enquiry was clearly unreasonable. In addition, the following points were relevant.
- Including the original submitted 2021 R&D report, HMRC had in its possession more than 70 pages of project information. It was inconceivable how asking questions about the 2022 claim would help them arrive at a decision on the 2021 claim. HMRC had an abundance of information about the 2021 claim – more than enough to form an opinion.
- Several of the projects in the 2021 claim did not form part of the 2022 claim. Again, it was unclear how the 2022 enquiry would assist it in forming a view of the 2021 claim, given that many of the projects in 2021 were not undertaken in 2022.
- Enquiry correspondence makes it quite clear that HMRC wishes to understand the work undertaken in a specific accounting period. This is understandable, as the activities performed in that period are what additional relief is given to. Each accounting period should be assessed in isolation. Pausing an earlier year enquiry to consider information about a later period serves simply to frustrate the taxpayer.
After considering all options, the client opted to apply to the tribunal for a closure notice. The application has yet to receive a response.
Unintelligible ramblings
While many advisers in the sector have bemoaned the countless repeated requests, templated questions and ignorance of information already provided, there is also a growing trend of unintelligible arguments and statements from HMRC.
Rarely does HMRC interrogate specific points made in correspondence. Instead, standard questions are repeated which take no account of information already provided. However, in the rare examples of when HMRC does consider information which has been presented, the standard of response is concerning.
In February 2024, we received the following statement relating to a project:
‘Please be aware that the onus is on your competent professionals to provide explanation how your project constitutes an advance and not goals and target to improve your knowledge in developing a product with certain specifications, compliant with the legislation and at the same time required to provide a productivity that would make your product appealing to the business operating in the industry [sic].’
In the same letter, HMRC repeatedly referred to six projects forming the claim, when it had set out the four projects at the start of the letter.
In August 2023, HMRC wrote to the CIOT’s Ellen Milner, in response to concerns which had been raised about R&D enquiries. In the letter, HMRC stated that it had in place ‘quality checking processes to help ensure communications to our customers are accurate and appropriate’. It is evident that these processes are insufficient.
Failure to keep to a logical information request order
We have also seen cases where the enquiry process has been drawn out as a result of HMRC not following a logical process of questioning.
We were approached by a client in October 2023 to assist with an enquiry which had been opened into an R&D tax relief claim. HMRC’s opening letter was unusually light on content, and only requested information as to why to the projects would not be considered readily deducible by a competent professional. This specific question had been addressed in the report produced by the client, but we advised that it might be useful to provide further information, over and above what had already been provided in the report. A response was sent, providing answers to the question, and documenting the competent professionals who had assisted in compiling the original claim.
Months later, a response was received from HMRC. Frustratingly, HMRC now opted to send its standard opening letter, requesting details about the advancements being sought, the technological uncertainties involved and the methods employed to resolve the uncertainties. Answers to these questions were included in the original submitted report and HMRC had not asked these questions in the opening letter.
At this point, the enquiry had been ongoing for over four months. The client was exasperated as to why HMRC had not asked the additional questions in its opening letter. This was clear evidence that HMRC had not read the original report and had not structured the enquiry in a manner which was efficient and logical. The enquiry had consisted of a series of random questions that did not make any reference to information already provided. After four months, and having already provided substantial information to HMRC, the enquiry had effectively been reset back to HMRC’s normal opening position.
Failure to consider AIF submission
Readers will be aware that claims submitted on, or after, 8 August 2023 must now include an additional information form (AIF) which provides details of qualifying projects and expenditure. The introduction of the AIF is seen as a positive move by many advisers, as, among other things, it provides transparency over which adviser has assisted with the claim and sets out a standard format to provide key information.
It would seem sensible to assume that claims which have been submitted on, or after, 8 August 2023 would not be subjected to the same templated opening enquiry letters that claims filed before 8 August have been subjected to. After all, claims filed after 8 August will have provided HMRC with details of the qualifying projects, including the advancement sought, the baseline technology and the technological uncertainties involved. It was assumed that enquiry letters for claims filed with an AIF would focus on project (or cost) specific issues, rather than templated letters which contain the standard questions advisers will now be very familiar with.
Sadly, it would appear that our assumptions were incorrect. Two very recent enquiry letters we have caught sight of were for claims filed after 8 August 2023, and therefore included an AIF submission. The enquiry letters are identical to those sent out to companies which made claims before 8 August, and do not consider or interrogate any specific information which was included in the AIF. Our hope that the AIF would lead to more positive enquiry experiences, focusing on specific aspects of the claim, appears to be ill-founded.
And it goes on...
The list of complaints above is not an exhaustive one and there are others which warrant mention. For example, the cursory Google search by an inspector to discredit an R&D project (‘I’ve Googled this product and it already exists so it cannot be R&D’). Then there is the absence of a named inspector handling individuals and small business compliance (ISBC) enquiries; the refusal to hold meetings or telephone calls with the client; the stark contrast in approach to enquiries between ISBC and wealthy and mid-sized business compliance (WMBC); and the baseless levying of penalties for careless behaviour (which, in the interests of balance, seems to have been corrected in recent months). There are examples of wilful ignorance of information already provided. The list goes on.
The Reddit poster talked of ‘substandard behaviour’ and the ‘cesspit’ the country has sunk to. Both terms can undoubtedly be applied to HMRC’s current R&D compliance check policy. But we can also follow the advice given in the anonymous post: ‘We all need to complain loudly when things are truly wrong.’
John Moxon, Taxation Magazine 2nd May 2024
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