Lee Sharpe looks at the findings and recommendations of the recently published Independent Loan Charge Review, together with the government response.
Introduction and Background
In simple terms, the Loan Charge is the government’s attempt to claw back tax and NICs on tax avoidance arrangements that HMRC failed to assess when they were made, so they would otherwise be “out of time” for HMRC to assess the outstanding tax and NICs now.
Again, in simple terms, some people took some of the reward for their work in the form of interest-free loans rather than as conventional taxable salary. Since loans are by their nature capital amounts that are repayable, they could not comprise income that could be taxed.
HMRC’s traditional approach has been that such loans to employees are not really loans but earnings, broadly on the basis that the loans will never be repaid. The problem for HMRC was that, historically, the courts had largely disagreed with HMRC up until the “Rangers case” was heard at the Supreme Court in 2017 - RFC 2012 Plc (in liquidation) (formerly The Rangers Football Club Plc) v Advocate General for Scotland  UKSC 45.
In other words – and very simply put – for most of the last 20 years, taxpayers could reasonably have felt they were justified in historically having treated such loan arrangements as exactly that – loans, and not earnings.
Despite HMRC’s public position, it seems that it harboured doubts that it would eventually win through, because:
- It often failed to open enquiries into tax returns that included such loans, despite the taxpayer’s having highlighted/disclosed the use of those arrangements; and
- It introduced new Disguised Remuneration legislation at ITEPA 2003 Part 7A via the 2011 Finance Act the better to combat such arrangements
- It then introduced fresh legislation in F(No.2) A 2017 Sch 11 (as amended by FA 2018) to attack the loan balances themselves – the Loan Charge
Those who have followed the twists and turns of the Rangers cases and the relevant legislation more closely may well consider this an over-simplification so gross as to be misleading: more accurately, HMRC won because it changed tack halfway through and in fact the Supreme Court held that earnings were put at the employee’s disposal – and therefore taxable – before a loan was actually made. I would myself generally favour precision over fudge, so I do hope readers will forgive / forget, lest the introduction eat the article proper.
What does the Loan Charge Legislation Do?
HMRC would probably have preferred to have taxed the loans (or at least the money movements that ultimately ended up as a loan) as earnings, as and when the transactions were undertaken. But within the standard framework for:
- Giving HMRC time to query / object to a taxpayer’s Self Assessment of the tax treatment that should be applied to their peculiar circumstances, and
- The supposed aim of providing taxpayers with certainty over their tax affairs
- many years were long past their sell-by date, and HMRC could not go back and open enquiries into years that were now “out of time”, so to make them live cases now.
So HMRC hatched a cunning plan.
Instead of trying to go back and tax old transactions, it would tax the outstanding loan balances – more specifically, the loan balances outstanding at 5 April 2019 – as if they were income arising in that year.
On the one hand, courts had consistently found that loans were in fact loans, and not income that could then be taxable as earnings. But statute can change the rules with the stroke of a pen. Or a key. Thus was the F(No.2) A 2017 Sch 11 legislation devised, to deem any relevant capital balances still standing at 5 April 2019 as income, taxable under the Disguised Remuneration regime already established in 2011.
Outrage understandably ensued. Two issues in particular are worth considering:
- The Loan Charge is retrospective – it doesn’t ‘care’ how the loan arose or when, so long as it was no more than 20 years old at the trigger date of 5 April 2019
- The Loan Charge happily taxes many years’ worth of transactions in one ‘lump’
There is no specific proscription against retrospective taxation, but a charge of retrospectivity is politically toxic, on the basis that a taxpayer is supposed to be entitled to a degree of certainty in his or her tax affairs, and changing the law to make a transaction taxable that wasn’t when it was actually undertaken, is largely frowned upon. If retrospective taxation were commonplace then it would make a mockery of the tax regime, and risk making HMRC out as no more than opportunistic bandits.
But actually, retrospective legislation in taxation is commonplace, typically because HM Treasury or HMRC need more time to draft tolerable legislation in a Finance Bill or, all too frequently, to spare parliament’s / HM Treasury’s / HMRC’s blushes, when one, some or all of them finally realise that legislation they have already set to stone is irretrievably stupid and needs to be re-worked. Such masterpieces may typically be found skulking in the butt-end of Finance Acts, where few but the most intrepid of tax practitioners have the dedication to tread. For example:
- FA 2016 Part 8 retrospectively introduced a higher/additional rate of 3% for acquiring additional residences, backdated to 1 April 2016.
- New cash basis of assessment for landlords F(No 2)A 2017 Sch 2 was backdated by roughly 6 months. Note there is still time to elect out of the cash basis and I feel quite strongly that most landlords probably should.
- The scope of SDLT relief for first-time buyers was retrospectively enhanced the better to cover those participating in shared ownership arrangements by virtue of FA 2019 s 42/43
- Entrepreneurs’ Relief is effectively held together by bits of string, fairydust and retrospective legislation to make good changes by governments who did not understand the legislation well enough to change it properly in the first place. Did I say fairies? I meant unicorns. Definitely unicorns.
While much retrospective legislation could be brushed off as administrative nicety, introducing legislation that taxes loans which, by that time, could have been almost 20 years old is an altogether different beast.
HMRC might well argue that the Loan Charge is not actually retrospective in the precise usage of the term for tax legislation, because it does not actually go back in time to make taxable the original transactions that resulted in the loan balance. Instead, it taxes the capital balance that is still outstanding at 5 April 2019, as earnings. But it is unequivocally retroactive in its effect, and it does ‘look back’ over the last 20 years. (And it is arguably worse, technically speaking: not only does it retrospectively offend against the desire for certainty, but it aims to tax capital as if it were income).
While readers may well already have divined that I am hardly a fan of the Loan Charge, I can to an extent respect some of the underlying logic: HMRC had always said that these loans were really earnings because they were never meant to be repaid. So if the loans had been repaid by 5 April 2019, no Loan Charge would arise. I suspect that, in HMRC’s eyes, the worst offenders were to be punished the most.
If retrospectivity alone were insufficient tinder, then taxing up to 20 years’ worth of transactions as income arising in a single year is perhaps more offensive. For many taxpayers caught up in the Loan Charge, it threatened a quite rude introduction to higher rates of Income Tax than they might ever have met before, as well as an extra zero or two on their tax bills.
Some might say that this is only tax ‘cheats’ finally getting what they deserve. (And we shall look at the government’s communication “strategy” in this regard later). But those familiar with the Loan Charge will be well aware that many Loan Charge victims were not witting or willing participants: rather they were engaged or given work on terms that included loan arrangements as a fait accompli. Such pre-cooked arrangements were commonly found in supply nursing and teaching, IT and construction contracting. Many would not have had their own independent advisers but relied on the advisers of the party who engaged them, responsible for implementing the scheme and looking to reduce the engager’s tax exposure, rather than that of the person receiving the loan and now exposed to the Loan Charge.
And so this deemed lump of income was all the more painful, because often the full benefit of the loan arrangement did not flow through to the contractor. While much of the original advantage instead went to engagers/employers and their advisers, it was the recipient of the loan who could now bear the brunt of the Loan Charge.
I conclude that HMRC probably expected the Loan Charge in many cases to act as a very big stick, the better to scare poor taxpayers into settling tax disputes with HMRC before the Loan Charge itself was triggered. But it still forecast the Loan Charge to affect up to 50,000 people, and that insolvencies would result.
Up With This…
It will come as no surprise that the Loan Charge caused consternation amongst tax experts and many taxpayers who were potentially within scope of the regime. Aside from technical analysis work from the professional bodies and assistance for taxpayers provided by LITRG, there was:
Loan Charge Action Group – a collaboration largely between IT contractors and others directly affected by the Loan Charge, to raise awareness of the regime and highlight its perceived unfairness
Loan Charge All-Party Parliamentary Group or APPG – a cross-party group of parliamentarians set up in January 2019 to take the government to task over the regime’s perceived unfairness
There were also numerous special interest sites such as Contractor Calculator – and us. In Budget 2018: Fiscal Phil Says Austerity Ends When I Say So, OK? we highlighted that there were growing concerns that victims of the Loan Charge would suicide as a result, and that the gross unfairness of the regime risked the public’s breaking faith with HMRC.
The House of Lords Economic Affairs Committee report The Powers of HMRC: Treating Taxpayers Fairly was published in December 2018. It devoted a chapter specifically to the Loan Charge.
Its broader findings included that the balance of power had “tipped too far in favour of HMRC and against the fundamental protections every taxpayer should expect”. As regards the Loan Charge itself: “in its retrospective effect, and its failure to pursue taxpayers proportionately to their circumstances, HMRC’s approach to the loan charge diverges substantially from the principles in the Powers Review”. The Committee’s report recommended that the Loan Charge be significantly curtailed essentially so that “out of time” years would be excluded.
Even before the Loan Charge APPG was formalised, MPs had started seriously to question the Loan Charge and concern was such that the Finance Act 2019 was amended to force the Chancellor to undertake a review of the Loan Charge, and to report back to the House by the end of March 2019 (FA 2019 s 95). However, the resulting HM Treasury report followed the strict letter of the Finance Act amendment, so did not amount to the review that MPs thought they had been promised, and did no more than reaffirm the government’s position.
"The way HMRC has conducted itself over the Loan Charge from start to finish, including with regard to the wilful and chronic campaign of misinformation, to Parliamentarians and the wider audience, is disgraceful. HMRC has shown a determination to push through a deeply questionable policy based in part on an evidenced need to cover up their own failings with regards to these arrangements. There must be an independent investigation into this, with the possibility of taking appropriate disciplinary action against any and all HMRC staff who have knowingly been involved. Such behaviour also suggests at a wider level an organisation that has lost its way, is lacking fundamental underlying values and is devoid of proper leadership."
We also noted in our article that HMRC had initially claimed it was unable to trace any taxpayers affected by the Loan Charge who had suicided. Until it transpired – thanks to an HMRC whistleblower – that HMRC was in fact aware of at least 6 cases. Gosh, I do hope that HMRC has stopped investigating whistleblowers and their relatives under the RIPA anti-terrorism legislation.
The APGG was not put off by the government’s own review of its approach to the Loan Charge, and the issue was debated over 2 days in April 2019 (arguably as thoroughly as it perhaps should have been in the first place). HM Treasury and HMRC remained unmoved, however.
MPs nevertheless continued to pressure the government for an independent review and in early September, the government formally announced that an independent review would in fact be undertaken by Sir Amyas Morse, former Comptroller and Auditor General of the National Audit Office. The publication of Sir Morse’s findings and recommendations was delayed because of the General Election, until late December 2019.
Findings of the Independent Review
It is clear that Sir Morse dislikes tax avoidance. It seems that the report works on the basis that tax planning is OK, while tax avoidance is not.
It is also interesting that the report says that the rollout of IR35 to the private sector will “need and deserve support from Parliament”, whereas what it actually needs is its own Independent Review, not least into how the government and HMRC in particular are trying to circumvent the inconvenient truth about IR35 and contractor status (HMRC’s approach to IR35 is fundamentally flawed, it cannot win cases so is trying to remove the taxpayer’s recourse to independent tribunals so far as possible, and stack the deck so that engagers will find it prudent to treat all contractors as subject to PAYE). I cannot but wonder at Sir Morse’s confidence that having his support team seconded entirely from HMRC and HM Treasury did nothing to colour his appreciation of the matters at hand. Anyhew, back to the Loan Charge:
- Elements of the Loan Charge went too far in undermining or overriding taxpayer protections.
- Despite HMRC’s claims that it had always said that such arrangements did not work, it had not in fact always said so, and for many years the courts had not supported HMRC’s view about the taxable nature of loan schemes and the leading cases from the time had been consistently decided against HMRC’s position, broadly until FA 2011 served to draw a line in the sand. “Even if HMRC had made their position clearer, taxpayers are entitled to rely on the law as interpreted by the courts – rather than a position taken by HMRC – as the authoritative guide to their tax obligations.”
- For the 20-year look-back period of the Loan Charge to be proportionate and justified, taxpayers would need to have acted in a way that was perverse in light of a clear legal position. This was not the case.
- The government’s stated objective in introducing the Loan Charge – namely, shutting down the use of the schemes – has not been met, as they apparently continue largely unabated. In fact, there were more first-time users in 2017/18 than in any year dating back to 1998/99. The wider focus on reducing the tax gap, and reducing tax avoidance, is also unlikely to change.
- While HMRC’s powers have increased significantly, particularly with the Loan Charge, its performance and accountability has not increased at the necessary rate when compared to that accumulation of those powers.
- The government’s published Impact Assessment of the Loan Charge “did not take full account of the impact that it would have on individuals and their families”. It seems that the original Impact Assessment considered the effect on the UK population overall and determined that the potentially serious consequences for the roughly 50,000 individuals involved (and by implication their families) were not material.
The Independent Review went on to make a number of recommendations, most of which are covered in the government response, below.
Government Plans Changes to the Loan Charge
The government seems largely to have accepted the findings and recommendations made by the Independent Review:
- The 20-year retrospective effect of the Loan Charge has been curtailed and will in no circumstances apply to loans made before 9 December 2010 (which was when the draft legislation for FA 2011 was published – including the fundamental changes to tackle Disguised Remuneration), and;
- Furthermore, the Loan Charge will not apply to any outstanding loans made in any tax years since then but before 6 April 2016, where the avoidance scheme use was fully disclosed to HMRC and HMRC did not take action (for example, by opening an enquiry)
- Having re-calculated their Loan Charge in accordance with the foregoing, taxpayers can now elect to spread the residual Loan Charge evenly across 3 tax years:
Spreading the deemed additional income “lump” should help to reduce the risk of taxpayers being unfairly catapulted into higher tax bands than they would have suffered in the first place; it may also serve to improve cashflow by potentially deferring some of the cost of the Loan Charge to later years.
- HMRC will make voluntary restitution against payments that had already made by taxpayers in order to prevent the Loan Charge arising, and included in a Settlement Agreement made since March 2016 (when the Loan Charge was announced). But it will not do so until the required changes to the Loan Charge legislation have been enacted by Parliament, which is expected to be Summer 2020.
- There will be flexibility in terms of Time to Pay any residual liability:
- Nobody will have to pay more than 50% of their disposable income towards the Loan Charge, unless they have very high levels of disposable income
- Those without disposable assets and earning less than £50,000 a year will get Time to Pay of at least 5 years but
- Those earning less than £30,000 will get at least 7 years’ Time to Pay
- There is no upper limit for Time to Pay but longer periods will require the disclosure of detailed financial information
- Taxpayers who are yet to make a 2018/19 tax return incorporating a Loan Charge will have until 30 September 2020 to file and pay their tax without suffering the usual penalties or interest for late filing, payment or inaccuracies in relation to the Loan Charge itself, provided the return is submitted, and payment made or arrangement agreed, by that date
- But while the threat of the Loan Charge itself may have abated, any underlying disputes are still live and open enquiries will need to be resolved by settlement or litigation
Arguably the 2 main arithmetic issues with the Loan Charge – 20-year retrospectivity and taking the Charge in a single hit – have been largely addressed. The government appears to have categorically baulked at only one recommendation, being that lower-earners be let off any residual amounts still due under Time To Pay periods stretching beyond 10 years.
While the legislation to give effect to this has not appeared at the time of writing, it would seem safest to make good use of the extended deadline for filing / payment, up to 30 September 2020. For example, advisers and taxpayers will want to know if spreading elections can be revoked if a taxpayer’s circumstances change part-way through the 3-year spreading period. And whether or not there are special provisions for amending returns afterwards.
The Independent Review also recommended:
- An independent body be funded to assist lower-income taxpayers struggling with HRMC debt
- A more considered approach to Impact Assessments and whether / how seriously a policy might affect the target population, rather than the UK population as a whole
- Better performance and training in line with HMRC’s Charter
The government has already committed to (1) and promised to take (2) and (3) into consideration. With regard to (2) and (3), given that the Impact Assessments on Taxpayer Impact and Information Notices, and the Taxpayer’s/HMRC’s Charter, have been objects of ridicule for as long as I care to remember – and improvements will be practically impossible to test – I have my doubts.
While the headlines on the Loan Charge Independent Review will doubtless follow the recommendations and changes that will be some relief to those caught up in the regime, perhaps the most important finding was that the Loan Charge simply did not work. If we accept that the intention of the Loan Charge was to discourage further adoption of Disguised Remuneration schemes, (rather than simply to claw back money the Exchequer would not otherwise have been entitled to) the policy has proven an abject failure:
“The government’s stated policy objective at Budget 2016 was to shut down the use of loan schemes.”
“However, the government’s objective in introducing the Loan Charge – namely, shutting down the use of the schemes – has not been met.”
“…despite the Loan Charge, schemes continue to be used in significant numbers. There were more first-time users in 2017-18 (over 6,000) than in any earlier year”.
“The Loan Charge… has also not been successful in stopping use of the schemes. HMRC reported to the Review that over 6,000 individuals entered into loan schemes for the first time in 2017-18, and 8,000 individuals have entered into loan schemes since April 2019, of whom 3,000 are first-time users.”
The cynic in me concludes that this finding will not discourage HMRC / HM Treasury from pursuing such policies in future, rather that they will decide that they will have to do much better in covering their tracks, so that they are less likely to be subjected to independent scrutiny and/or be found out.
With regard to the detail of the Loan Charge, the report broadly supports the stated intention of the Loan Charge – to dissuade taxpayers from entering into Disguised Remuneration arrangements – but has found serious flaws in its design and implementation, requiring remedy in terms of:
- Severely limiting the extent of its retrospection
- Extending the number of tax years over which the Loan Charge is levied (to limit the risk of taxing income at even higher rates)
- Practically easing the repayment term to accommodate those with lower incomes
I do think the Loan Charge was ill-conceived and iller-implemented. I said earlier that HMRC might well argue that the Loan Charge was really only ever to be used as a device in its negotiations to convince people to settle ongoing tax disputes on potentially more favourable terms, and this certainly sits better after HMRC had won the Rangers case at the Supreme Court in 2017. But the Loan Charge was originally proposed in 2016, long before the government knew that Rangers would go its way. From that perspective, it smacks bitter indeed – one can almost taste the aloes, sour grapes and scorched earth from here.
The report said:
“The UK is one of the most tax-compliant countries in the world. HMRC recognises this as a major public benefit, with their policies being generally designed to maintain and enhance the voluntary compliance that sits at the heart of the UK’s tax system… If left unchanged, the Loan Charge risks – if not damaging support for such measures – than being unhelpful to HMRC’s strategic goal of encouraging voluntary compliance with the tax system.”
Which echoes one of the concerns we raised in Budget 2018: Fiscal Phil Says Austerity Ends When I Say So, OK?
I cannot remember the last time that HMRC admitted that the UK is one of the most tax-compliant countries in the world. (Although I do recall that, last time HMRC discovered that part of its digital transformation strategy - to make taxpayers more honest - resulted in a fall in tax yield, it was quietly shelved). I have no doubt that HMRC both perceives and presents itself as the last line of defence against the UK’s financial Armageddon, and that in particular, “the PAYE must flow…”. Which is ironic, really, given that most of the real tax work these days is undertaken for free, such as by Self-Assessing taxpayers, PAYE employers and VAT-registered businesses – in other words, the “voluntary compliance” to which the Review refers above.
While the impact on taxpayers/families caught up in the Loan Charge regime was a key reference for the report, there is little mention of the suicides that had been linked to it. I will respect that approach, save to say that choosing not to labour a point really is not the same as forgetting it.
But my greatest distaste is for the overall manner in which HM Treasury and HMRC responded as concern mounted over the Loan Charge. The Loan Charge APGG referred to it in their report, as already mentioned; we picked up on it again in MPs Warn HMRC is Out of Control. The APGG report holds roughly 10 pages detailing HMRC’s and HM Treasury’s misrepresentations, obfuscations and sheer bloody-mindedness. There is also a neat summary in the APGG’s letter of 2 April 2019 to HMRC’s Chief Executive and Permanent Secretary. In fact, the Loan Charge APGG’s Directory of Publications and Correspondence is a veritable treasure trove – remember, the APGG is composed of MPs, not ‘just’ taxpayers supposedly driven to hysterical claims by the prospect of imminent financial ruin.
In fact, this is the reason why I referred to the Loan Charge Independent Review as “bloodless”: it is certainly substantive and those affected by the Loan Charge should in many cases benefit greatly. But the greatest crimes here have gone scarcely recognised and largely unpunished – rewarded, even. It is ironic that the Review frequently criticises HMRC’s “communications” and makes recommendations that they be improved, but only in the context of direct correspondence with specific taxpayers in relation to their particular circumstances. (Reference to mass communication to taxpayers generally has been disregarded as it is utter nonsense, and even the remotest chance that HMRC might be further encouraged to use Twitter, or similar horrors, needs to be destroyed. With fire.)
What this Review should have done, and resolutely failed to do, was to call out HMRC’s and HM Treasury’s overall ‘communications’ approach. I find it difficult to conclude that there was anything other than a deliberate and concerted strategy to ignore the facts, to promote mistruths, to alienate, to denigrate and effectively to isolate those who were caught up by the Loan Charge regime, with the overall aim of ensuring that Parliament and Joe Public assumed the worst of those so caught. Little wonder, then, that the mental health of so many is reported to have suffered.
The Independent Review chose instead to criticise both sides for becoming “entrenched” without properly communicating. With respect, only one side of that debate starts each day with a dedicated press office, and only one side is paid to be honest and accountable to the other.
It was in fact shockingly easily to catch HMRC / HM Treasury out:
The Loan Charge policy is expected to protect £3.2billion / an estimated 50,000 people will be affected by the Loan Charge (Loan Schemes – The Facts [I kid you not])
The Loan Charge policy package is expected to raise £3.2billion / it is estimated that around 50,000 individuals used Disguised Remuneration Schemes (HMRC Issue Briefing: Charge on Disguised Remuneration Loans)
The Charge on Disguised Remuneration Loans is expected to raise £3.2billion / The Government estimates that up to 50,000 individuals will be affected by the Loan Charge (Commons Debate Pack 4/4/19 – Introduction of the 2019 Loan Charge)
So, when HMRC / HM Treasury is trying to convince Parliament and the general public that the Loan Charge is necessary, the headline is that it raises £3.2 billion’-worth of hospitals, trains, etc., etc.
The average Loan Charge (as most people would understand the word “average”) is clearly £64,000.
But when pressed by the Treasury Select Committee to defend the Loan Charge in relation to its powers against individuals:
HMRC says that the typical settlement is £13,000 (as reported by the CIOT)
The average amount it is estimated individuals will pay when settling their debts is £13,000 (HMRC spokesperson, as reported by the Financial Times on 1 February 2019)
Strictly, it would be right to recognise that HMRC played canny with its answer, because £64,000 would be the mean, while £13,000 would apparently be the median amount. But I have no doubt that HMRC deliberately used the lower figure hoping to avoid further probing (and in fact the Independent Review subsequently confirmed that the mean figure was closer to £60,000).
Are We Hopping Mad Yet?
Many readers will have heard the saying that “the art of taxation consists of plucking the goose so as to obtain the most feathers with the least hissing” attributed to Colbert; I rather think that HMRC has grown a little deaf/distracted while it furiously studies how best to cook taxpaying frogs.
While it is my understanding that the Loan Charge APPG intends to continue to press the government for further concessions, (and I have to say that the idea that taxpayers who were participating – wittingly or not – in Loan Schemes should have immediately scrutinised the draft legislation published on 9 December 2010 and concluded “Right, clearly I am henceforth going to have to re-arrange my business affairs”, is almost laughable), I suspect that the government will not give one further inch unless the general public actually realises how grossly offensive the measure was, and arguably still is.
We will undoubtedly continue to enjoy retrospective tax legislation, and in many cases, it is helpful and administratively necessary
We have already seen more retroactive legislation since:
- The current Finance Bill includes amendments to the CGT legislation governing PPR / only or main residence relief which, from 6 April 2020, will so restrict the availability of lettings relief (TCGA 1992 s 223(4)) – even that which has supposedly already accrued – that it is effectively withdrawn
- The current Finance Bill also includes provisions to make individuals jointly and severally liable for their company’s tax debts – potentially even those companies which had become insolvent several years prior to Royal Assent. For more information on this, see Draft Finance Bill 2019/20: HMRC's New Insolvency Powers.
HMRC / HM Treasury will doubtless continue to sell these measures as being necessary to protect taxes, but they are unlikely ever to find as politically ‘soft’ a target as landlords again, and once more and more ‘ordinary’ people start to get caught out by the new ridiculous penalty-generating regimes for property disposals, IR35 3.0, and joint and several liability under corporate insolvencies, then we may not actually need to see the Big Brother side of Making Tax Digital before the penny finally drops.