Any company or individual receiving a letter from HMRC opening a compliance check or enquiry into an aspect of their tax affairs is unlikely to be jumping around for joy at the news. It may well be thought that the issue asked about has been handled correctly but until it has been put to the test by a tax inspector you can never be 100% sure. Individuals often incorrectly feel that because they have done something in a particular way for a number of years and HMRC have processed the return containing that approach that this means the approach is “approved” and correct. In a self assessment world this is not a correct view. An incorrect approach can be taken for a number of years and it may not be discovered by HMRC until they make a compliance check.
A further issue is that different HMRC inspectors will behave differently in terms of the operation of a compliance check. I will give a few examples from the last year that I am aware of, but for confidentiality reasons will only talk about the cases in general terms.
Company A. One question on an @£300k R&D Tax Credit claim. Resolved in 24 hours and credit banked within 10 days of the check letter.
Company B. A check initiated after the R&D Tax Credit had been paid. It is always more concerning if a threat exists that a company may have to give money back that it may well have spent. 12 initial questions, some of which were multipart, further follow up questions and information requests, a two hour meeting, further questions and information requests all for again a @£300k R&D Tax Credit. No changes were made to the original submission the process took 5 months. This company had been through a similar compliance check process two years earlier with the claim fully accepted which also took about 5 months. The result of this was also no changes the claim was correct. This company spent 10 months under investigation over three years and not a single fault was identified while 99% plus of R&D claims do not even face one compliance check.
Company C. Not a client but approached us to use our Enquiry support service. Had claimed 5 years earlier and had a compliance check where a cost (Hosting) was accepted by an HMRC inspector. A second compliance check 5 years later was contesting the inclusion of the cost accepted at the first check which had grown far larger. Unfortunately, the first inspector had been wrong and perhaps kind and his actions in no way set a precedent for the subsequent enquiry. To make matters worse the government has just announced they will legislate to include hosting costs in qualifying expenditure from 1st April 2023. But it is clear that until that legislation becomes law they are not claimable.
Lessons to be learned.
1/Avoid overconfidence especially from previous successful claims. Self assessment creates this trap. You only really know a claim will stand up if it has been tested by HMRC. The Company C example shows even this is not 100% certain. If an error is discovered in a current claim HMRC can go back to prior years and see if the same error has been made.
2/Every enquiry is different. Individual HMRC inspectors will take different approaches and even in some cases interpret the compliance requirements differently. The hope is a reasonable view will be taken. The Company A and Company B examples showed far different levels of scrutiny to two companies that were claiming the same level of R&D Tax credit. This happens and individual HMRC inspectors have quite broad powers as to how they conduct compliance checks.
3/Answer all questions asked professionally, efficiently, and on time. I have just been through a parents evening with my son and both reading the questions then answering them effectively and relevantly (reference with evidence, explain, and analyse) was a theme. An HMRC compliance check is no different.
4/If you have claimed to date without an experienced adviser get one if you face a check! This leads back to point 3 if you don't really understand the questions and there consequences make sure you get support from someone that does. Otherwise you are at a real disadvantage. If you have someone who claims experience make sure they really are experienced. Have they had significant R&D claim enquiry experience?
5/If an error has been made declare it the minute you find it and explain it. For example, if you cannot show compliance in the answers to some of the questions, it is much better to declare a mistake yourself and explain it than to attempt to defend something that cannot be defended. It is also the correct approach in legal terms. It is possible that even in a well constructed R&D claim that an assumption has been made at some point that is not correct. If you try and defend something that is not defendable then you can be viewed as incompetent and every judgment made can be questioned from that perspective. Everyone makes mistakes even HMRC inspectors but trying to conceal a mistake is a bad choice and not forgivable.
6/If points of disagreement exist around aspects of a claim attempt to reach an agreement. Certain aspects of R&D claims are objectively right or wrong, but other elements require subjective judgments. If disagreement is about these judgements rather than adopting entrenched positions and maybe even going as far as Tribunal it is best to try and negotiate a settlement and put an end to the compliance check process. I cover Tribunal decisions in my blogs and frequently the common sense steps outlined here have not been taken. This can lead to years of dispute which end in unfavourable tribunal decisions.
7/Do not assume every HMRC inspector will interpret the legislation correctly. This might be viewed as a controversial point. HMRC take the view they are always right about tax matters. But tribunal decisions demonstrate that this is not the case. For example Quinn (London) Ltd v HMRC (TC/2020/01846) (27 October 2021) and Dnae Group Holdings Ltd V HMRC (TC/2018/04348) (10th August 2021). The issues are often not clear cut and if a company and advisers believe a claim is not being treated correctly it can be worth taking the issue to tribunal. But on the flip side a lot of very weak cases are taken to tribunal with almost zero chance of success and that should be avoided.
Summary –A compliance check is serious give it 100% effort and don't panic.
Chris Toms – Director RandDTax.