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How to handle an HMRC probe

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By Mike Smith, senior director, CompanyDebt 


Being informed that your business is going to be the subject of an HMRC tax investigation is not the type of news most small business owners want to wake up to on a Monday morning, and understandably so. Tax investigations can be extremely stressful and, even if everything is as it should be, they can still be time-consuming and complex.

The first you will hear of an impending tax investigation is the dreaded little brown envelope that you’ll find in the letterbox of your registered business address. This will either inform that you are to be the subject of a tax audit or a tax investigation.


A tax audit will usually involve a full check of your VAT and PAYE records and systems (as opposed to income tax and corporation) and focus on areas where mistakes are commonly made. Your business could be selected at random for an audit, although they are more if likely if you file returns late, have substantial variations between returns or make errors that need correcting. 

Tax investigations are a more serious matter entirely and will usually begin with a letter from HMRC telling you that a particular ‘aspect’ of your tax return is being investigated, or that a ‘full’ tax investigation is taking place. Due to the significant resources required, tax investigations usually only take place if HMRC believes you are making errors or deliberately concealing income on your tax return.  


If you are informed that you are to be the subject of a tax investigation, typically, the enquiry must start within 12 months of you filing the tax return it relates to, or 12 months of the due date if the return was not filed. Based on the initial letter you receive, your accountant should be able to provide some additional insight into why you are being investigated. 

Once you understand why you’re being investigated, this is what you should do:

Establish the investigation type
The first thing you need to do is establish the type of tax investigation taking place. There are three types of tax investigation:

A full tax investigation means HMRC believes there is a significant risk of errors in your tax returns. They will undertake a full review of your records to find any inconsistencies and may ask to see the personal financial records of company directors and owners to get a complete picture of their financial position. 

    
An aspect investigation usually means HMRC is concerned about a particular part of your accounts and wants to know more, but it believes any inconsistencies are the result of mistakes rather than a deliberate attempt at tax evasion. If HMRC discovers anything more serious during an aspect investigation, it can be reclassified as a full enquiry.  

Random tax investigations are quite rare but HMRC may investigate a business at random if it operates in an industry it has identified as ‘high-risk’. This could be one that receives a large proportion of cash payments. 

Understand your rights

HMRC must tell you what taxes it is investigating. HMRC itself says: ‘We will only review the records relating to the tax, duty or tax credit we have told you we will be looking at’. That means, if HMRC wants to review a particular aspect of your taxes, it must tell you in advance and give you the opportunity to decline. Equally, if HMRC has said it wants to investigate your VAT return but asks to see your income tax return, you are well within your rights to decline.    

HMRC also has the power to inspect a business’s premises. Although it will usually inform you of a visit beforehand, there has been an increase in the number of unannounced visits by tax inspectors in recent years. 


During these visits, HMRC can ask business owners and staff questions about the business, ask to see company books and records, remove records from the premises and access computer files. HMRC can also visit third parties. However, it cannot inspect a business owner’s home unless it is used in the course of business or stock or other assets are stored there. 

Seek advice

Tax investigations are a very specialist area and as such, you should seek the advice of a professional who can help. Your accountant should be your first port of call, but if they don’t have much experience of tax investigations then you will benefit from the assistance of a tax specialist. 

At the start of a tax investigation, HMRC will usually ask for you to provide certain information by way of an information notice. HMRC will ask for information that’s pertinent to the tax return(s) in question and your accountant will be able to help you get the relevant information together. However, they will also know if HMRC is acting unreasonably or demanding too much information from you and will be able to advise you accordingly. 

Provide as much assistance as possible

As long as HMRC acts within its powers, then you should cooperate with the investigators as much as possible. If it is found that tax was underpaid then HMRC will look at the circumstances surrounding the underpayment when calculating a penalty. 

That will include whether the underpayment was deliberate or the result of a simple mistake; the extent to which the business owners or directors have cooperated with the investigation; and whether you told HMRC about mistakes at your earliest opportunity.
    

Own up to your mistakes

An HMRC tax investigation is not something that will simply go away. Once a tax investigation has started, it can last several months or more. If you have underpaid tax, your aim is to negotiate an agreement at as low a cost as possible. 

If you are aware of the mistakes you have made, whether unintended or intended, HMRC operates a contractual disclosure facility (CDF). This allows you to disclose any errors within 60 days. This can help to reduce the penalties you receive and prevent HMRC from pursuing a criminal prosecution.    

Keep calm and co-operate

If you have received notice that you are to be investigated by HMRC, the most important advice is to keep calm and cooperate. If you have done everything you can to meet your tax obligations then, even if you have made an innocent mistake, HMRC will recognise this and deal with it accordingly.