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Part Deux HMRC Settlement Opportunity for Sole Traders and sideways loss relief

In an attempt to cut through potentially expensive and protracted litigation, HMRC are reaching out to individual taxpayers by casting doubt over their participation in “sole traders” tax avoidance schemes.

HMRC’s view is that sole trader schemes are those which have sought to create a loss through a self-employed trade that would involve substantial expenditure claimed to have been incurred in the trade.

One of the hurdles is with the geared loan arrangement – for example £200K personal cash invested, but through the scheme arrangement the geared-up loan is £1M, resulting in a side-ways loss relief claim for a 40% taxpayer of around £400K.

Broadly, HMRC's offer restricts the loss relief against other income to the individual’s personal cash contribution to the sole trader scheme, less any element expended on unallowable fees (such as those spent on tax advice or circular funding arrangements).

So in the above example the loss relief would be limited to £200K (less any disallowance for fees) which at a tax rate of 40 per cent equates to £80K cash tax - instead of the £400K under the tax avoidance scheme arrangement.

The other problem of course is that individuals have paid fees to join the scheme and might have already had a substantial tax refund due to HMRC's "process now check later" arrangements when handling self-assessed Tax Returns.

HMRC’s offer is irrespective of whether or not the promoter or the other participants in the scheme continue to disagree with HMRC's view.

The current HMRC letters we have seen typically offer following:

Under “The benefits to you” part of the letter, HMRC state that individuals will have certainty of the tax relief due and closure. However, if individuals take advantage of the opportunity the settlement contract with HMRC will be binding irrespective of the outcome of subsequent tax litigation by others involved in the same scheme.

This is not a new HMRC approach, it is just now being publicised on HMRC’s website and is part of their phased roll out of settlement opportunities to cut costs.

In the past offers like this are believed to have been sent out to cast doubt in the minds of individuals who are also perhaps fed up with an avoidance scheme that apparently went wrong. Of course, the scheme might be robust, or HMRC might have made a mistake procedurally as was the case of HMRC v Charlton & Others.

This highlights the importance of careful examination of HMRC’s letters offering a one-off opportunity; by checking the terms being offered very carefully and with an experienced tax specialist as it is quite possible the scheme was/is robust, or there is a procedural flaw in HMRC's Enquiry.