Finance Act 2020 – Increasing recoveries for HMRC
As practitioners will be aware, the Finance Act 2020 allows HMRC to significantly expand their powers to obtain recoveries of unpaid tax both directly and via insolvency procedures.
One of the main objectives of the Finance Act 2020 (‘the Act’) is to reduce the amount of tax revenue lost to tax avoidance, evasion or phoenixism. The Act contains two main provisions to facilitate this:
- Joint and Several Liability - The Act allows, in certain circumstances, HMRC to make directors, and other persons involved in these unethical practices, jointly and severally liable for a company’s tax liabilities; and
- Crown Preference - The Act also partially re-introduces Crown Preference under which HMRC debts have secondary preferential creditor status in certain circumstances.
These two new provisions bring with them new challenges. We set out the below overview of these provisions and the practical impact the Act is starting to have on situations encountered by Insolvency Practitioners.
Joint and Several Liability
From 22 July 2020, S.100 of the Act introduced new powers to HMRC. An authorised HMRC officer may, in certain circumstances, serve notice on a director (or shadow director) of a Company, which will transfer the company’s outstanding tax liabilities to that director personally. Ultimately, this provision broadened HMRC’s pre-existing powers to transfer tax liabilities - for example HMRC’s power to transfer liability for unpaid NICs and PAYE to employees (Regulation 86(1) Social Security (Contributions) Regulations 2001 and Regulation 81 Income Tax (PAYE) Regulations 2003).
Schedule 13 of the Act provides that Notice may be served in: ‘tax avoidance and evasion cases’, ‘repeated insolvency and non-payment cases’ and ‘cases involving penalty for facilitating avoidance or evasion’. The schedule goes further to specify the broad discretion bestowed onto the HMRC officer. This is summarised below:
1. In cases concerning tax avoidance and evasion, the HMRC officer may serve notice on an individual if they are satisfied that all four provisions set out below have been met:
- the company has commenced an insolvency procedure, or the officer considers there is a ‘serious possibility’ that the company will enter an insolvency procedure. Insolvency procedures have been defined to include: CVAs, arrangements and reconstructions under Part 26 of the Companies Act 2006 or procedures under different jurisdiction with similar effect.
- The individual was responsible for entering into tax avoidance arrangements or engaging in tax evasive conduct or if they received a benefit, which they knew arose from such arrangements or conduct.
- There is an actual or ‘likely’ tax liability that has arisen from avoiding/evasive action by the Company.
- There is a ‘serious possibility’ that some or all the relevant tax liability will not be paid.
2. In respect to cases concerning repeated insolvency and non-payment (i.e. ‘Phoenixism’), the conditions for serving notice differ slightly. The HMRC officer must have satisfied themselves that all the conditions set out below have been met.
- There must be at least two previous companies that:
- the individual had a relevant connection to within the period of the last five years.
- became subject to an insolvency procedure during the five-year period
- at the time of the company entering into the insolvency procedure there was a tax liability.
- The new company must be carrying out a trade that is similar or the same as the previous companies.
- The individual has had a relevant connection with the new company at any time during the five-year period.
- That at the time of the notice, at least one of the old companies had tax liabilities that are more than £10,000 or more than 50% of the total liabilities to the companies unsecured creditors.
As of the 1 December 2020, HMRC were placed back in the preferential creditor list and, as such, have a greater chance of retrieving certain outstanding tax liabilities from a company in liquidation. S.98 and S.99 of the Act provide that HMRC are entitled, in its new preferential position, to VAT and ‘relevant deductions’. These deductions include PAYE, Employee NICS, Construction Industry Scheme Deductions and student loans.
This change has made it increasingly important for lenders to establish whether the tax liabilities of a prospective borrower would jeopardise the security of their floating charge; should the borrower go into liquidation.
Practical Impact for Insolvency Practitioners (IPs)
In many cases, as a preferential creditor, HMRC will now have significant power in determining whether a CVA is successful. S 4(4)(a) Insolvency Act 1986 states that:
“neither the company nor its creditors may approve any proposal or modification under which— (a) any preferential debt of the company is to be paid otherwise than in priority to such of its debts as are not preferential debts”
Ultimately, this means that HMRC will have the ability to veto many voluntary arrangements. The fact that HMRC is sometimes slow in responding and/or unable to engage in insolvency procedures could make it increasingly difficult for practitioners to get voluntary arrangements approved where HMRC is a major creditor.
Liquidations and Administrations
IPs are now being tasked with balancing their duty to act in the best interest of creditors as a whole and the need to secure money for preferential creditors. For example, an IP will face a difficult decision when required to decide whether to use funds to pursue a legal claim where there is already enough money to satisfy liabilities to preferential creditors (i.e. HMRC).
Importantly, it will need to be remembered that IPs need to obtain approval from preferential creditors when dealing with litigation expenses over £5,000 (Insolvency Rules 2016 7.111-7.116 and 6.44-6.48). Consequently, IPs considering litigation are now likely to need HMRC approval (as a preferential creditor) in many cases before commencing claims. It still remains to be seen how HMRC are going to approach such requests and the criteria they will apply.
As an overriding point, in many cases HMRC may also now be looking to use their extended ‘joint and several’ powers as their primary route to a financial recovery. In circumstances where HMRC have a direct claim under their new joint and several powers and a liquidator/administrator has a claim against the same director (e.g. for breach of duty), this will lead to an obvious tension – particularly where the director has limited means to meet the claims.