Law firms' tax affairs in the spotlight

Since 2011, Her Majesty’s Revenue & Customs have launched some 35 task forces, comprising highly trained specialist officers, which are specifically designed to counter tax evasion. The London legal profession is the latest group to be identified as ‘high risk’ and to be targeted with a dedicated HMRC task force.

Based on the experiences of similar task forces in action, we should assume that they will already hold evidence of irregularities or ‘Spanish practices’, usually supported by information obtained from third party sources. Having this information will enable the task force officers to, inter alia, make unannounced visits to examine business records and premises. So what does this mean for the legal profession, and what might be done to mitigate any potential damages?

Mike Eland, HMRC’s Director General of Enforcement and Compliance has warned: “This is not an empty threat, HMRC can and will track you down, if you chose to break the rules.”

These are strong words that will not go down well with professionals connected with the legal profession. Indeed, it is expected that such barbed comments will cause outrage among small, middle and large ranking firms alike, which in many cases will have spent considerable sums to ensure the highest standards of compliance. The launch of the task force not only taints the reputation of the legal industry but also suggests widespread impropriety.

Targeting small firms

If the profession as a whole is not viewed as being ‘crooked’, you are left to ponder the true target for this offensive. Is it perhaps the self employed barrister, where there might perhaps be more scope to operate outside of the constraints of a ‘corporate’ law firm structure? Certainly, tax chambers would provide an easy target and a valuable source of information to check the declared levels of income for individual barristers. However, it is hard to believe that any tax chamber would be complicit in tax evasion. It is far more likely that barristers are being targeted in respect of much more mundane tax issues such as excessive business expenditure claims, recognition of business income or simply letting their personal tax affairs slip into arrears as a result of excessive workloads over many years.

The task force could also be seen to be pin-pointing smaller legal firms where accounting systems, due to understandable economic constraints or a lack of accounting sophistication, may not be as developed as their bigger brothers in the City. Smaller law firms may be viewed by HMRC as an easy target due to the perceived tax irregularities in waiting. So where will HMRC draw the line? It is suggested that if this is the principal thrust of the taskforce that firms with one, two and three partners will be targeted.

Specific areas

There may even be concerns focussed on particular areas of law (e.g. property and commercial law) where large transactions which give rise to sizeable considerations and sometimes lucrative fees may be earned. Indeed, HMRC has become increasingly sophisticated in recent years in data collection and data interrogation and one of the principal suppliers of information over the last 20 years has been the Land Registry and the Valuation Agency.

Historically, such information has been used to target the parties to particular property transactions but on the same stamp duty return forms there is information identifying the firms of solicitors acting. Perhaps therefore the starting point for HMRC will be to research say £5m plus property transactions cross referencing such information to the lawyers acting, and then targeting those firms which appear with the greatest frequency.

In circumstances, where lawyers are doing large amounts of work for third parties such as banks, insurance companies and healthcare providers, there will be huge opportunities for HMRC to approach the ‘pay masters’ on a third party basis for information regarding fees rendered.

Bar leader Michael Todd is reported to have said that it is not clear why the legal profession has been targeted and that he was unaware HMRC had specific concerns about the tax affairs of lawyers. Mr Todd has expressed his concerns that HMRC have decided to proceed in this manner rather than using the channels of communication with the relevant professional bodies.

Task forces are intended to complement other HMRC voluntary disclosure campaigns such as the ‘amnesties’ launched for medical practitioners and plumbers. According to HMRC sources, campaigns have to date produced a yield of nearly £510m from voluntary disclosure facilities and over £120m from enquiry work. Some 23 criminal proceedings are underway and one conviction has been secured. The latest task forces already announced are expected to recover a further £50m.

Potential ruin

Recent changes to HMRC’s procedures for cases of suspected tax fraud (the so called ‘Contractual Disclosure Facility’) mean that an individual may only obtain immunity from prosecution for tax offences by admitting tax fraud and signing a declaration to this effect. HMRC has historically had higher expectations of behaviour from professionals such as accountants, members of the legal profession and anyone involved in the administration of taxes. Indeed, together with public figures and celebrities, these are often the professions selected for prosecution to send out salutary messages.

For most professionals, whether accountants, doctors or lawyers, any admission of fraud could spell potential ruin, particularly given the declarations that may have to be made to professional bodies and the resultant disciplinary hearings. Given the reputational issues involved, the clear recommendation to any concerned solicitor, barrister or law firm is to seek early advice. Doing so allows for any innocent or careless irregularities to be rectified immediately and, most importantly, without causing professional damage.