Wouldn’t life be simpler if your published financial reports and accounts were used as a basis for calculating your tax liability? No more messing with all those nasty computations. No more hassle with every company in your group having to file its own separate tax return with the Inland Revenue. No more dealing with tax inspectors who insist on seeing reconciliations between your tax accounts and financial accounts. In truth, such a scenario is a nightmare for most finance directors – and the tax handed over to Her Majesty’s Treasury is unlikely ever to be a straight percentage of the accounting profits. But the Revenue is likely to concentrate greater resources on crawling over your published financial information to make sure the correct wedge has been paid. A tax manager from a blue chip company, who declined to be identified, told Financial Director: “We are aware that for a number of years the Revenue has been taking a critical look at our published report and accounts. They examine them in some detail and they do pick up issues and query them.” She added that her company had heard rumours that the Revenue was looking to align GAAP with tax accounting principles (TAP). Allan Cook is technical director at the Accounting Standards Board, which has firm views on its relationship with the Revenue. “From time to time we have people telling us we can’t do something because of tax implications,” he says. But the ASB largely ignores such issues. “With due respect to her Majesty’s Commissioners we cannot have the accounting dog being wagged by the tax tail.” But it is perhaps an unforeseen and unwelcome development that as the ASB has sorted out accounting and financial reporting issues, both the Revenue and the Courts have been turning to the Financial Reporting Standards as a precise set of rules. And Cook says he can see why the Revenue wants to move closer to financial accounts. “It would be simple and save arguments and all those different reconciliations. But we would not be in favour because so many of those (Revenue) issues are a matter for Parliament. If tax was based on accounting profits then they would by default be decided by accounting standards and then we would have to fight through a host of tax issues,” he says. If such a move were to happen it would require a major shake-up in the legislation. Maurice Fitzpatrick, head of economics with Chantrey Vellacott DFK, says: “The Revenue is not entitled to assess the consolidated profits of a group. It has to assess the individual profits of individual companies.” But even if the Revenue can’t assess groups, it can try to take an overall look at the group position and then check that against the aggregated return from all the subsidiaries. The past few years have seen a fundamental shake-up in the way the Revenue lines up against business. And the changes taking place mean that corporates – especially multinationals and the quoted sector – can expect more frequent and more searching examinations by the tax inspector. Although the Revenue can’t assess the consolidated profits, the figures might suggest that there is some profit, which should be charged to UK tax, that is going missing. This practice could be described as the consolidated approach. One tax expert says: “You sometimes see companies that really stack up their stock provision so as to suppress UK taxable profits. But so as earnings per share is not hit, those excessive provisions are backed out on consolidation.” The blue chip tax manager confirms that the Revenue will ask about consolidation adjustments, as well as ratios and gross margin profits. “They go through all the detail in the directors’ report, looking at areas such as overseas profits, disallowables, even quite trivial matters such as entertainment and charitable contributions. I assume their aim is to try and tie it all together with what we give them,” she says. As a precaution, she reviews draft reports and accounts prior to publication, looking for anything that will be provocative to the Revenue, “just to try and prevent any initial misunderstandings.” The experience of the blue chip company is confirmed generally by Sheena Sullivan, a tax partner with Pannell Kerr Forster, who specialises in helping companies under investigation from the Revenue. She knows that the Revenue looks at published accounts, but believes they are not always a reliable source of information. “There are many legitimate commercial reasons why the accounting profit does not equal the profit for tax purposes. But if the tax charge in the accounts is less than they expect, then the Revenue automatically thinks there is massive avoidance going on and wants to know more,” she says. And these days, at least in terms of information, what the Revenue wants, the Revenue will probably get. John Whiting, a tax partner at PricewaterhouseCoopers, and chairman of the tax administration sub-committee with the Chartered Institute of Taxation, says: “While the Revenue has always used published accounts, it is looking at them more carefully because of the switch to corporate self-assessment.” With corporate tax self-assessment (CTSA), the Revenue has acquired greater powers of investigation. Even though few accounts have been filed with the Revenue, and the enquiry stage has not yet been reached, some trends are clear. “The Revenue is going to become better at investigations, looking for the anomalies and analysing accounting information. As CTSA gets going I’m sure corporations and their advisers will also see more investigations,” says Whiting. The increasing emphasis on the Revenue asking awkward questions has a political cause. Fitzpatrick of Chantrey Vellacott DFK says: “We are two-thirds of the way through the Spend to Save Programme, which has unleashed extra compliance resources of around £800m over three years. These are aimed at generating £6bn in extra revenue to the Treasury.” However, one ex-Revenue inspector told Financial Director: “With big multinationals I am sceptical whether you could even start doing an exercise of comparing individual profits with the published profits. They have companies all over the place, and in the end the sub-consolidation disappears up the arsehole of a British Virgin Island company.” But if the Revenue hits a blank, or at least does not score well with the big quoted companies, it is inevitable that it will make its way down the scale and investigate smaller companies. The increased likelihood of an investigation is made worse by CTSA rules. Pre-CTSA, the Revenue would select certain companies for enquiry based on information received from another agency, or an anonymous tip-off, maybe from a disgruntled employee, or simply because the sector was known to be prone to tax avoidance. But there had to be a reason. Under CTSA, investigation has become a lottery. The Revenue is allowed to pick cases at random, and need not say why it is investigating. Sullivan says: “Now, when the finance director receives a letter from the Revenue saying it would like to know more, the FD doesn’t know if he is just unfortunate and his number has come up, or whether it knows something it is really bothered about.” The Revenue has re-organised itself with the sole aim of tackling business more effectively, and it is now organised into Large Business Offices (LBOs). “The Revenue realised that if it was going to launch an investigation into a large quoted it needed a resource that was way beyond the average inspector and tax office,” Sullivan says. For the Revenue, this is not only a question of more resources but better marshalling. Whiting says that any quoted company will probably now have 90%-95% of its tax affairs dealt with by one LBO. “This compares with the time when each subsidiary and head office was dealt with by its local tax office. The Revenue is now mimicking the way business is run in the late 20th century. The reorganisation to LBOs means there is coordinated case working. There is a team targeting X plc, rather than an inspector doing his or her own thing,” he says. Add in the recent merger of the Contributions Agency with the Revenue and you can start to see that the Revenue is working hard to gain an overall picture of your company’s tax affairs. With all this interest in companies’ accounts, tax experts are trying to convince clients of the need for good documentation and record keeping, especially in areas, such as transfer pricing, where it is known that the Revenue is on the war-path. “We are advising clients to get their paperwork in order, so when the letter comes they can demonstrate that the (transfer) prices they used were not something that they thought up late one Friday afternoon,” says Sullivan. Whiting is emphasising appearance as well as substance. He says: “Presentation is key. You have to fill in the return so the information is presented clearly, so the Revenue doesn’t come back and ask what it means.” The ASB is aware that the Revenue scrutinises its work just like it examines the accounts of companies. “We talk to the Revenue from time to time on an arm’s length basis. They certainly don’t get consulted more than the general public and they don’t peer over our shoulder as we write standards,” says Cook. Even so, the Revenue has found some of the ASB’s work interesting, notably on provisions, off-balance-sheet financing and the difference between capital and income. And, although the Revenue may not be able to rely heavily on the ASB, FDs who boast to the City of their strong performance can be sure that the tax inspector is filing away that information to ensure such good tidings results in the Treasury’s coffers being swelled. And if more profit for your company doesn’t equal more tax paid to HM Government, be more prepared than ever to explain in some detail why not. A reminder about CTSA CTSA starts for accounting periods ending on or after 31 July 1999, which means most companies are now into their first year of the regime. Under CTSA, the the burden of compliance is now on companies. They now have to file their tax returns, calculate the tax and pay it. In theory, the Revenue has to do nothing more than process the paperwork. However, the key difference is the shift in responsibility. In the past it was up to the Revenue to ask questions if it was unsure of anything. If it failed to do so in the specified time limits, the matter was closed. Under CTSA, the onus is on the tax-payer to make the necessary disclosures. If a company fails to do so, and then discovers it owes more tax than first thought, it will be deemed to be at fault and liable to back tax, interest and penalties. So CTSA makes it difficult to decide what to tell the taxman. Pain as you yearn In April 1988 we published an article headlined “The Revenue hunts for back-PAYE”, written by our long-serving friend, Peter Bartram. It showed how company payroll departments were responsible for collecting £40bn-worth of tax and National Insurance, and yet payroll units were very much the unloved backwaters of the finance or HR departments. Casual shop-workers in high street retailers and “Spanish customs” in the Fleet Street era of, er, Fleet Street, were said to have cost employers millions once they discovered that PAYE systems weren’t “in apple-pie order”. Indeed, as we said then, “the Revenue has been delighted that its few tangles with big corporate names have netted some sizeable sums in unpaid tax.” Politicians, we said (and remember that Nigel Lawson was Chancellor then), were delighted that tougher action could net higher revenues – and perhaps even fund a cut in tax. Sounding familiar, isn’t it?
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