Businesses will now be aware that, following a consultation in March 2021, the UK government announced that it would legislate to require the largest businesses to maintain a master file and local file, in the format set out by the OECD guidelines. It also announced the introduction of a summary audit trail (SAT) requirement, which would be in the form of a questionnaire detailing the main actions they have taken in preparing the local file. The draft legislation gives these proposals teeth via special amendments to HMRC’s powers.
HMRC proposes to switch off the not-in-UK “possession or power” protection where the information notice requires provision of the new mandatory transfer pricing (TP) documentation. Although limited in effect, we've seen a few instances where multinationals prepare their TP documents outside the UK and staff based in the country wouldn't necessarily ever have had access to it. Now a UK-entity can be required to provide these documents anyway and fined for non-compliance. The practical effect of this measure might have been primarily to save HMRC the trouble and delay of having a treaty-partner authority in the relevant country obtain the documentation for them. Ultimately, however, since HMRC with its excellent treaty network would usually have had this option, the new measure doesn’t actually allow them to get something they wouldn’t ultimately have been able to get anyway.
In addition to any penalties suffered for non-compliance with a formal information notice, the proposed changes create a presumption that any error subsequently identified in the TP was careless any time a business has failed to produce the newly mandatory TP documentation; failed to retain it for the required period; or fails to provide it in response to an information notice. This presumption binds the tribunal as well as HMRC. The result would be a penalty of between 15 and 30% of the additional tax due.
The proposed change to penalties in effect shifts the burden of proof. If a business can persuade HMRC or the tribunal that they took reasonable care they still won't suffer a tax geared penalty. In theory this means a business could fail to produce any of the required TP documentation, but still demonstrate reasonable care. Given that the effective (if not the formal) burden of proof lies with the business once HMRC alleges carelessness in most of the cases we assist clients with the impact of this change should be limited in most instances.
HMRC confirmed this week that in their view the core new TP documentation requirements will make those documents statutory records within the meaning of Paragraph 29(2) Schedule 36 FA 2008. This means it won't be possible to appeal against a requirement to produce them included by HMRC in a formal information notice. This has a number of interesting consequences.
It’s now clear that the possession or power measure in the draft legislation as described above is of very limited effect since it won't be possible to appeal an information notice on these grounds in any case (because there's no appeal in relation to statutory records). While it may otherwise have been possible to maintain even absent an appeal that an HMRC notice was invalid on these grounds, arguing that an existing document which an entity was legally obliged to maintain was genuinely outside of its possession or power would be a very fine line to tread.
Crucially, the defence that the documents aren't reasonably required for the purpose of checking the tax position will no longer be available for the same reason (no appeal possible).
It may still be possible to withhold TP documentation on the basis of legal professional privilege. Where applicable, this would typically be included as a ground of appeal. While this won't be possible for a statutory record, it's possible that HMRC would still accept that, notwithstanding the inability to appeal, their notice is nevertheless ineffective insofar as it requests privileged documents falling within Paragraph 23.
The new clarification of position from HMRC in relation to statutory records really does throw the emphasis onto what might otherwise have been considered a modest change to HMRC’s information powers when the draft legislation was first published. Businesses will now face exposure to daily penalties which can be increased up to £1,000 a day for non-provision of TP documentation with extremely limited scope to appeal. As a result, the strengthened information powers measures may now be considered the principal sanction and enforcement measure underpinning the new TP documentation requirement, rather than the changes to the penalties for inaccuracies rules. This will likely come as a surprise to most businesses and advisors, based on the material published by HMRC on 20 July 2022.
It will be evident from the above that the new measures will have real teeth. We can support clients to identify when they have come within the scope of the new TP documentation requirements and to ensure they are fully compliant.
Our Tax Disputes Resolution Team has a wealth of experience supporting client discussions with HMRC on information powers, penalties, and appeals. Given the changes described above, this really is an area that will reward those seeking the best expert advice.