Alternatives to Litigation

HMRC is responsible for the collection and management of tax in the UK.  It has a wide discretion in doing so, and in how it goes about litigating and settling tax disputes.  As many readers will know, HMRC has a published strategy regarding its approach to litigation and settlement – the Litigation and Settlement Strategy ("LSS")¹ – which provide for HMRC to engage in alternative dispute resolution ("ADR") to support the resolution of disputes with taxpayers.  Further, the procedural rules of the First-tier Tribunal (Tax Chamber) require the Tribunal hearing any tax dispute to seek where appropriate (i) to bring to the attention of the parties the availability of ADR; and (ii) to facilitate the use of ADR (if the parties wish to engage in it and if, in the circumstances, its use is compatible with the overriding objective of dealing with cases fairly and justly).²

Following the completion of two successful pilot studies (one for small and medium sized businesses and individuals, and one for large and complex cases), HMRC has formed the view that ADR can be a genuinely useful tool for settling or better understanding tax disputes, and has taken steps to make the use of ADR by compliance teams more routine.  HMRC now has over 50 trained facilitators and mediators, and has published statistics showing a global "success rate" (ie, cases resolved fully or partially following ADR) of 75%.³

This article considers (i) the potential advantages of using ADR in tax disputes; (ii) the forms of ADR with which HMRC will engage; (iii) the sorts of disputes which are suitable for ADR; (iv) the ADR process; and (v) the decision making processes within HMRC relevant to the settlement of disputes by way of ADR.

Contents

Advantages of ADR in tax disputes

Form of ADR with which HMRC will engage

Disputes suitable for ADR

The ADR Process

Decision making within HMRC

Advantages of ADR in tax disputes

Many of the advantages commonly associated with ADR in commercial disputes are equally applicable to ADR involving HMRC.  Two of the most significant advantages in the context of tax disputes are:

• confidentiality – particularly given the reputational risks faced by businesses in the context of current public and political attitude towards perceived "infringement" of the letter or spirit of the UK's tax legislation; and
• speed – even a well-managed tax appeal can take over 18 months from notification of the appeal (after a potentially lengthy investigation / enquiry) to reach a first instance hearing, whereas most mediations can be concluded within a much shorter time frame (often closer to 6 months).

Form of ADR with which HMRC will engage

If your tax affairs are dealt with by HMRC's large and complex or large business services and you have a CRM or dedicated case worker, and a dispute arises between you and them in relation to a tax issue, HMRC will in appropriate cases consider resolving the tax issue (whatever tax is involved) and any associated interest and penalties by engaging in either:

• facilitated discussion – a process where one or both parties engage non-independent facilitators to organise a series of structured discussions/negotiations between the parties; or
• facilitative mediation – a process where the parties engage an independent party (the mediator) whose role is to assist the parties to work together to find a mutually agreeable solution to the dispute, without offering any opinion on the merits of the parties' respective positions.

Where the issue in dispute is not, directly, a tax issue (albeit one which, when resolved, may have some tax consequence – for example, the proper meaning of a contract or the valuation of an asset), HMRC may also consider engaging in either:

• evaluative mediation – a process where the jointly appointed mediator provides their own view on the matter as a specialist in the subject matter of the dispute; or
• non-binding neutral evaluation – a process where a neutral third party expert provides a non-binding opinion on the merits of the dispute.

ADR is also a possibility for small and medium sized businesses, or taxpayers with complicated personal tax affairs, in appropriate cases.  In order to start the process in such cases, there is an online form to be completed to provide HMRC with the information necessary for it to consider the suitability of ADR,[iv] and HMRC will let you know within 30 days of submission of that form whether it considers ADR to be appropriate in your case.  The remainder of this article is focussed on large business disputes only.

Disputes suitable for ADR

ADR is a consensual process hence, for a dispute to proceed to ADR, HMRC must agree to using that process.  HMRC's view is that ADR should only be considered where it is likely to add value, and consider that it is unlikely to be appropriate unless the benefits can be clearly identified, articulated and agreed.

HMRC's published view is that ADR might be of benefit (and, therefore, might be appropriate) in cases where, for example, it appears that a third party could assist the parties:

• to understand, clarify or focus the issues between them (for example, to narrow the scope of any dispute);
• to re-engage in circumstances where their relationship has broken down; or
• to identify alternative possible settlement outcomes (in circumstances where a dispute had previously appeared binary in nature).

HMRC considers ADR is unlikely to add value (and therefore unlikely to be appropriate) in cases:

• that turn entirely on points of law;
• where there are important points of principle or policy implications, or where resolution would require departure from an established HMRC view; or
• where HMRC suspect lack of integrity or wish to test the veracity or strength of the taxpayer's evidence.

Accordingly (and as we have experienced), if you wish to engage HMRC in ADR, it will often be crucial to demonstrate that the dispute. "properly understood", is one about the facts of the particular case rather than the law.  This may require some creative thinking to turn the debate away from the meaning of the particular statutory provision in issue and towards what the facts (to which that provision must be applied) really are.

The ADR Process

When and how the ADR process is started

You can seek to engage with HMRC in ADR at any stage of a dispute – whether during pre-return work, during an investigation / enquiry into a return, or after a closure notice has been issued.  However, ADR is most likely to be appropriate only once you and HMRC have had the opportunity to explore the relevant facts and your respective technical positions.  Accordingly, ADR is usually unlikely to be appropriate during the early stages of an investigation or enquiry.  Indeed, based on experience, HMRC is more likely to be receptive to exploring ADR once statutory appeal or other proceedings have commenced since, at that stage, the taxpayer will have demonstrated their willingness to litigate the issue (HMRC having a greater tendency, in our experience, to play hardball with taxpayers who seem fearful of reputational damage if their dispute were to be scrutinised publicly).

You should bear in mind that engaging in ADR does not automatically stay any statutory appeal or case management deadlines (eg, where litigation is in contemplation or has been commenced).  Accordingly, if you wish to engage in ADR, you (and HMRC) should consider whether to (i) agree / apply for a stay of procedural steps / proceedings; or (ii) progress ADR in parallel with any litigation processes (which might be inefficient from a cost perspective, and may make the ADR process more confrontational and less productive).

Where you wish to engage with HMRC in ADR, you should raise the issue: (i) with your CRM or dedicated case worker; or (ii) directly with HMRC's Dispute Resolution Unit (the DRU).  If your CRM / case worker (together with any other HMRC stakeholders – such as technical specialists) and the DRU agree that ADR would be appropriate, the DRU will authorise, and assist with making, any ADR arrangements.  Where the HMRC team or DRU do not agree that ADR would be appropriate, your request will be referred to HMRC's ADR Panel for consideration – this panel comprises a number of senior individuals within HMRC, including HMRC's General Counsel and Solicitor.  (It is possible for HMRC to approach you with a proposal to engage in mediation: in such cases, an internal process similar to the one described above will have been completed by HMRC in advance of their approach.)

Process: facilitated discussion

Where you and HMRC agree to engage in a facilitated discussion, HMRC will usually aim for the process to be concluded within three months.  Indeed, HMRC's ADR Panel may make agreement of such a timetable a condition of entering into a facilitated discussion.  That said, in the context of the High Risk Corporates Programme (which, admittedly, is a slightly different process), we have experience of the structured discussions process lasting more than 18 months.

In any facilitated discussion, the DRU will appoint an HMRC facilitator who has been trained externally.  By agreement, you can also appoint a similarly trained facilitator to work in conjunction with the HMRC facilitator.

It is not uncommon to enter into a facilitation agreement with HMRC, addressing the same type of issues commonly covered in a mediation agreement, such as: (i) who has authority to bind each party; (ii) the status of the discussions (ie, confidential and without prejudice); and (iii) any settlement formalities that will need to be complied with.  This ensures that the process for reaching and finalising any agreement is clear, as well as securing that neither party is prejudiced (in any subsequent litigation) by having engaged in the facilitation process.

The facilitated discussion will usually last for one day only.  Accordingly, proper preparation is essential, and – so far as possible – you should seek to:

• agree with HMRC in advance and, where necessary, with the assistance of the facilitator: (i)  what points of fact / law are in dispute, and (ii) all practical arrangements (such as date, venue, attendees – in particular, decision makers); and
• exchange with HMRC succinct written summaries of your respective positions in relation to the points of dispute and any questions that are required to be answered.

Although, as set out above, all genuine settlement discussions will be subject to without prejudice privilege, this only means that details of the discussions (and, in particular, any admissions) cannot be deployed in evidence by HMRC in any subsequent proceedings.  It does not mean that HMRC cannot make use of the information obtained for other purposes – for example, it does not stop the investigation team passing the information to colleagues in another team to enable them to open a fresh investigation into a different tax issue.  Although a taxpayer engaging in ADR can seek to reduce the risk of the investigation team sharing information with colleagues through suitably drafted confidentiality clauses (creating a confidentiality ring), such clauses may prove difficult to enforce, and the safer option would be for a taxpayer to avoid disclosing details of collateral issues (not currently in dispute) unless strictly necessary.

Process: mediation

Where you and HMRC agree to engage in a mediation, HMRC will usually aim for the process to be concluded within six months.

You should seek to agree with HMRC the form of mediation (usually a facilitative rather than an evaluative mediation) and identity of the mediator.  Any proposed mediator will have to be approved by HMRC's DRU, and it may take HMRC up to two weeks to conclude that approval process.

It is usual to enter into a formal mediation agreement with HMRC, setting out the conditions under which the mediation will take place.  The appointed mediator is likely to have their own standard form, which should deal with issues such as confidentiality, authority to settle, and responsibility for the mediator's costs (and the mediator's immunity from subsequent claims made by the parties).

Things to consider at the preparatory stage of mediation include:

• Who will attend the mediation – both parties should ensure that attendees have sufficient authority to settle the dispute (see further below regarding HMRC's authority to settle, and possibility of pre-approval within specified settlement parameters).
• Where the mediation will be held – it is unlikely that HMRC will be resistant to attending a mediation at your adviser's offices (even though it is not "neutral" territory) since it is likely to reduce costs.
• What documents should be exchanged – it is usual for each party to prepare and share a position statement with the other party and the mediator prior to the mediation, setting out their primary position in relation to the issues in dispute and persuading the other party of why they should seek to resolve the dispute (usually by telling a narrative which helps the other party see the case from a different perspective, rather than detailed legal submission).  Thought should also be given to whether there is any further documentation/evidence which could helpfully be exchanged before the day of the mediation in order to assist the parties understanding of their respective cases / the sense of settlement.  For example, it may be that expert evidence (on, for example, valuation) would shed light on how a particular point should be resolved, though the dispute may not have progressed to the stage of exchanging experts' reports.  If that is the case, the taxpayer should consider instructing an expert, and providing HMRC with a copy of their report, in advance of the mediation.
• What contact should be made with the mediator in advance of the mediation – in addition to the position statement which is shared with the other side, a party may wish to prepare an additional confidential paper "for the mediator's eyes only" (to assist in candidly explaining their position to the mediator), and parties frequently find it useful to have a meeting or call with the mediator prior to the mediation in order to build up some familiarity and to gain a better understanding of how the mediator plans to structure the mediation day itself.
• Your negotiation strategy – in order to make the most of the time available on the day of the mediation, you should prepare a negotiation strategy in advance of the mediation including (i) the possible range of LSS compliant settlement offers that could be made (and the legal analysis underpinning those offers), and (ii) possible non-financial elements of any offer (in suitable cases, an apology or a public statement to address reputational issues caused by the dispute).
• Your opening statement – it is usual for each party to be given the opportunity to make an opening statement at the start of the mediation day: you should use that opportunity carefully, ensuring that the statement clearly delivers the message you wish to convey (even if it is simply to underline your seriousness about potential settlement), and remembering that it will go some way to setting the tone for the rest of the day.

Decision making within HMRC

Any agreement reached by HMRC during an ADR process will need to be reached in accordance with HMRC's published Code of Governance for resolving tax disputes.  Accordingly, prior to attending a facilitated discussion or mediation, you should ensure that:

• the HMRC representatives attending have already engaged with the appropriate HMRC decision maker and obtained authorisation to settle within specified parameters (or that the relevant decision maker will be available during the facilitation / mediation to approve any settlement); or
• if that is not practicable, that HMRC have put in place measures to ensure that any provisional settlement agreed during the process can be considered by the relevant HMRC decision maker on an expedited basis (eg, by preparing the appropriate paperwork required by the decision maker, and agreeing a timetable for approval, in advance of the facilitation / mediation).

In summary, HMRC's governance process provides as follows:

• In all cases:

• • that are sensitive (ie where HMRC consider that a decision to resolve the
    dispute might have a significant and far-reaching impact on HMRC policy, strategy or operations and which are likely, in consequence, to prompt significant national publicity);
  • where the tax at stake exceeds £100 million; or
  • where the maximum potential adjustment is at least £500 million,

(and in certain other cases referred to it by the business area boards referred to below) a panel of three HMRC Commissioners (including HMRC's Tax Assurance Commissioner) must approve any proposed settlement (having taken recommendations from HMRC's Tax Disputes Resolution Board, the "TDRB").  The same process will apply to a sample of cases each year in which the tax at stake is between £10 million and £100 million.

• Within each business area (such as Enforcement and Compliance ("E&C"); Large Business Service ("LBS"); and Specialist Personal Tax ("PT")), a senior decision-making board will consider proposals to resolve cases with significant amounts of tax under consideration, or which raise novel points.  There is also a decision-making board which considers cases involving transfer pricing issues (the Transfer Pricing Board, or "TPB").  In E&C, the board will consider cases between £15 million and £100 million.  In LBS, the board will consider cases between £25 million and £100 million.  In PT, the board will consider all cases over £10 million.  The TPB considers cases between £15 million and £100 million (transfer pricing disputes involving tax at stake of between £5 million and £25 million are considered by panels within HMRC's transfer pricing governance structure).
• Smaller disputes are resolved by individual case workers (and technical specialists in more complex cases), overseen by their line managers.  Where internal consensus between case worker and line manager cannot be reached, any settlement proposal will be escalated to deputy director level and, if necessary, director level.

Limits of what HMRC can agree

The relevant HMRC decision maker will only approve a settlement reached in ADR if it complies with the LSS.

The LSS provides that HMRC will only settle a dispute in accordance with the law – that is, on a basis that HMRC believes to be a likely outcome of any eventual litigation.  There may be a range of likely outcomes – for example:

• There may be a number of technical issues (whether cumulative or alternative) which could give rise to a range of possible tax results depending on how they are determined by the Tribunal or Court.
• There may be a range of factual findings that a Tribunal or Court could make (in the absence of clear / agreed facts), giving rise to a range of possible tax results.  (In the absence of full factual information, it is permissible in certain circumstances for HMRC to agree factual assumptions.)

Where there is a range of likely outcomes, HMRC will take account of which outcome secures the right tax most efficiently – in other words, HMRC may take account of factors such as: (i) the likely costs of pursuing their "best case scenario" through litigation; and (ii) the likely effect a proposed agreement would have on the taxpayer's (or other taxpayers') behaviour in future.

However, where there is not a range of likely outcomes – ie, the dispute is "all or nothing" – HMRC will either: (i) settle for no less than 100% of the tax it considers due; or (ii) concede the issue in full.

Though HMRC may consider settling a number of disputes with you at the same time (and, in doing so, may settle them on different terms than they would if each dispute were settled separately), HMRC will not enter into undifferentiated "package deals" in which the merits of each dispute are not separately considered.

Settlement agreement

A comprehensive settlement agreement will be required to conclude a successful mediation.

 

 

 

 

 

 

 

 

¹ The LSS was first published in 2007 and subsequently refreshed.  The current version (together with detailed commentary) was published in November 2014.
² Rule 3 of the Tribunal Procedure (First-tier Tribunal) (Tax Chamber) Rules 2009.
³ The Tax Assurance Commissioner's Annual Report 2014-15, published July 2015.
⁴ https://online.hmrc.gov.uk/shortforms/form/ADREng?dept-name=&sub-dept-name=&location=43&origin=http://www.hmrc.gov.uk , accessed 31 May 2016.