A CHRISTMAS STORY

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A CHRISTMAS STORY

Do you think we have a fair tax system?  Government Ministers and HMRC officials keep telling us we do, but I’m not so sure myself.  As it’s near Christmas, I thought I’d tell you a story.

Are you sitting comfortably?  Then let us begin.  Once upon a time in a far away country called Ghana a kind teacher called Freda decided to set up a nursery school.  It was very successful and in 2008 she decided to expand the nursery school.  She mentioned this to her daughter (who lived in England) when the daughter came on a visit to Ghana.  Returning home to England the daughter told her husband Edwin, who had also come from Ghana.  Edwin had bigger ideas.  He volunteered to help Freda create a private school to take pupils right up to Junior school level.  He saw the project as his chance to give something back to the country of his birth.  Edwin entered into a partnership with three other people to create the school.  He put in £21,000 of capital and collected money from others to support the school.  By September 2009, it was clear that the school needed much more money than had been raised but Freda and other family members had become unhappy with Edwin’s “hands on approach” to the school and were losing interest.  When it opened, it attracted only nine pupils, had difficulty hiring teachers and quickly collapsed.  Edwin and everyone else lost their investments.

Some of you are probably thinking that Christmas stories ought to have happy endings.  Others may think what’s that got to do with fairness and tax?  So I’ll tell you Edwin’s story too.  Edwin had a job in IT.  Indeed, he had two jobs.  When he started the school project, he was employed by a large IT company, TPI Eurosourcing.  However, he had previously worked for a smaller one, Mphasis, and continued to do a bit of freelance consultancy work for Mphasis because he hoped that as they grew, they would want him to work for them again.  Edwin wanted to keep his Mphasis fees separate from his TPI salary so decided to open a second bank account.  Sadly, he had a poor credit rating but his brother agreed to open an account at Barclays in his own name and let Edwin run the account.  Edwin did not look at that account very often as he did not do a lot of consultancy work, but when he started to collect money for the school, he put it through the Barclays account.  Edwin’s self-employed earnings for 2009/10 were fairly low.  This prompted HMRC to open an enquiry into his tax affairs.  That’s obviously fair.  If someone is self-employed and he cannot live on the income he declares, he is obviously understating his tax.  It would clearly not be reasonable for HMRC to look at the rest of his return and see that he had a full-time job elsewhere so his consultancy income was unlikely to be significant. (Sorry, as its almost Christmas I must try harder not to be so sarcastic).

Well HMRC looked at the Barclays Bank account.  They discovered 7 round sum bankings of cash totalling £6,740, 5 items that Barclays described as “Ezeoke OM Purchase” totalling £8,670 plus two marked “OM Ezeoke Bill” totalling £2,120, one marked “CN Martins Barclays” of £2,120 also and 2 items marked “S Rojer Mark”, totalling £1,250, a total of £20,900.

“Ah ha”, thought Mrs Scrooge, the HMRC Officer (not her real name). “If I add £20,900 to the declared income, the total comes to a much more reasonable figure for someone to live on”.  So Mrs Scrooge invited Edwin and his accountant to a meeting to explain why they thought the £20,900 should not bear tax.  Edwin produced a letter from his father in Ghana saying he had lent Edwin £14,169.  He produced a letter from Mr Eze Oke in Nigeria saying that he had lent Edwin £14,160 towards a school in Ghana.  He produced a letter from Freda saying that she had received 117,000 Ghana Cedis from Edwin towards the building of the school.  He produced a letter from a firm of solicitors in Ghana saying that they had been instructed to draw up the partnership agreement for the school.  Unfortunately the figures in the letters did not reconcile with the amounts in the bank account though.

“Not sufficient”, said Mrs Scrooge.  “Where are the loan agreements”.  Sadly there were none.  Perhaps in Ghana people trust their friends and relatives whereas in England of course no one would dream of lending money to their son without instructing a solicitor to draw up a loan agreement first.  (That doesn’t sound right.  I’m English and over the years I’ve lent money to lots of people, never thought of asking for a loan agreement and have always been repaid.  So perhaps HMRC families operate differently, as had I been Mrs Scrooge, I certainly would not have expected there to be loan agreements).

In any event, Mrs Scrooge then, I assume, explained how the fair English tax system works.

1.      She decides that £20,900 paid into a bank account set up to bank freelance earnings is likely to be income in the absence of any proof to satisfy her otherwise.

2.      It is then for Edwin to prove it is not income.

3.      HMRC use a principle called the “assumption of continuity”.  This enables Mrs Scrooge to assume that if Edwin had undisclosed earnings of £20,900 in 2009/10, he would have similar undisclosed earnings in 2008/09, 2010/11 and 2011/12, a total of £83,600 undisclosed income.

4.      Edwin has deliberately omitted the £20,900 from his tax return as he did not regard it as income.  Deliberately omitting income is very serious.  Accordingly in addition to the tax on the £83,600, Mrs Scrooge wanted a penalty equal to 54.25% of that tax.

Assuming income tax at 40%, that meant that Mrs Scrooge wanted Edwin to pay £51,582, because he had not proved to her that the £20,900 was not income.  Does that sound fair to you?

Edwin appealed to the tax Tribunal.  HMRC told the Tribunal that the law says that if there remains any uncertainty in the judge’s mind, then Edwin will not have discharged the burden of proof, so must find against Edwin and give HMRC their £51,582 of flesh.  “Wrong”, said the wise judge.  “Edwin has only to show that it is more likely than not that the £20,900 was to build the school”.  “He struck us as a straightforward and reliable witness”, they said.  “We take account of the discrepancies in the figures.  But we also take into account that the type of IT work he does is not compatible with offering services to individuals on an ad hoc basis.  We also do not think that the fact that someone opens a separate bank account for his consultancy income creates a presumption that everything in that account is income.  We think that Edwin has demonstrated to our satisfaction on the balance of probabilities that the £20,900 was not undeclared taxable earnings”.

So there’s the Christmassy happy ending.  They all lived happily ever after (probably) – well, possibly except for Mrs Scrooge who might have got a bonus for creating £51,852 for HMRC out of £20,900 of non-taxable receipts, but I suspect she feels there are plenty of other taxpayers to be fleeced so what’s one defeat.  If so, she is probably right.  Many people are scared of going to the Tax Tribunals, so I suspect most people in Edwin’s position pay up. 

Oh, and while the assumption of continuity is a concept that has been endorsed by the Appeal Tribunals, it is one that applies only where the omissions are of a type that is likely to recur, which was not the case with Edwin’s receipts (even if they had been income).

So congratulations to Edwin (for the technically minded, he is Edwin Bekoe (Case TC 6181)) and to his accountant for this well-deserved victory.  And a happy Christmas to all my readers.

ROBERT MAAS