Following a two year consultation, the UK government has published draft legislation that has the potential to significantly expand the scope of its information gathering powers under Schedule 36 Finance Act 2008.
The Existing Position
Under existing legislation, HMRC has the power to both request information and documents from a taxpayer directly (by issuing a taxpayer notice) or from a third party (eg lawyers, accountants, administrators etc.) who holds information relating to that taxpayer (by issuing a third party notice).
In the period since the implementation of Schedule 36 Finance Act 2008, HMRC have successfully extended the scope of these powers through the courts, in particular by increasing the circumstances in which the information requested is deemed to be 'reasonably required', as well as successfully issuing notices to overseas parties. In Tony Michael Jimenez v FTT and HMRC  EWHC 2585 the Court of Appeal ultimately found that HMRC were able to issue first party taxpayer notices to non-UK residents, while in HMRC v Mr & Mrs PQ, 2019 UKFTT 371 TC, the First Tier Tax Tribunal concluded that HMRC were able to issue third party notices to non-UK residents. Before the Jimenez decision, it was generally thought that HMRC was unable to compel a non-UK resident party to provide information under these statutory powers.
These powers remain subject to certain safeguards. In relation to third party notices, the most significant safeguard is that HMRC is unable to issue a notice unless either:
- HMRC has obtained the agreement of the taxpayer whose tax position was being scrutinised, or
- the approval of the First Tier Tax Tribunal (the "FTT") has been obtained.
Such approval is only to be granted by the FTT in the event that the HMRC officer giving notice is able to demonstrate that he is authorised and justified in doing so, and the recipient of the notice and the taxpayer are informed as to the reasons why the information is required (and given a reasonable opportunity to make representations to HMRC). Unless the tribunal approved the third party notice, the recipient has the right to appeal against the notice or any requirement in the notice on the ground that it would be unduly onerous to comply (save where the information or document requested forms part of the taxpayer's statutory records).
Financial Institution Notices
The Government has recently published draft legislation amending Schedule 36 Finance Act 2008, the result of which is that HMRC will be empowered to issue 'Financial Institution Notices' ("FINs"). These are third party notices which can only be issued to "financial institutions" and which would require the financial institution in question to provide information to HMRC about a specific taxpayer. HMRC will not require either taxpayer consent or tribunal approval to issue such notices. HMRC will have to be able to demonstrate that the information requested is reasonably required for the purposes of checking a known taxpayer's tax position.
The justification provided by the Government in favour of FINs is that the UK is currently failing to comply with its obligations under international standards and in particular is unable to respond to information requests from other jurisdictions in a timely manner. In particular, HMRC's policy paper notes that it takes an average of 12 months for HMRC to obtain information requested by other tax authorities, whereas the target under international standards is six months.
In its original consultation paper, the Government proposed abolishing the requirement to seek First Tier Tax Tribunal or taxpayer approval before issuing any third party information notice. The response to this proposal was predominately negative, with respondents highlighting that the measure went beyond what was reasonably required to address the problem that HMRC was seeking to address (namely responding in good time to requests for information from tax authorities in other jurisdictions). As a result, HMRC chose to introduce FINs rather than to remove any of the existing safeguards relating to third party information notices (ie to sidestep the earlier objections).
As first and third party notices have been found to apply extra-territorially, one suspects that the same finding would be made in respect of FINs. However, the draft legislation is silent on the point, and the matter would need to be taken to tribunal for confirmation (and such decision would then be subject to appeal).
It is important to note that, whilst Schedule 36 provides rights to appeal first and third party notices, the draft legislation provides no right to appeal a FIN. If a penalty is issued for non-compliance, there is a right to appeal the penalty. This is significant as the grounds for appealing the penalty will not include that the notice itself was improper, but rather the recipient would typically need to contend that there was a "reasonable excuse" for non-compliance. One is typically only regarded as having a reasonable excuse in relatively narrow circumstances for a temporary period, eg if illness prevented compliance before the deadline. If a third party appeals a penalty for non-compliance, the starting presumption will be that the penalty is due, and the onus shifts to the recipient to demonstrate a narrow range of excuses and that the excuse has not expired.
The draft legislation has been published as part of Finance Bill 2020/21, which will eventually become Finance Act 2021. The legislation has been published in draft to allow for technical consultation before the Bill is laid before Parliament. The consultation runs until 15 September 2020. There is scope for the draft legislation to be amended prior to the Finance Bill 2020/21 receiving royal assent, or before the draft clauses are debated in Parliament.
What is a Financial Institution?
The primary difference between a FIN and a third party notice is that a FIN may only be provided to a "financial institution", and therefore this definition is central to the practical application of FINs. The draft legislation defines Financial Institution (for the purposes of Schedule 36 FA 2008) as including any person treated as a financial institution for the purpose of the Common Reporting Standard ("CRS") (or any person that issues credit cards), other than an institution which is only within the CRS definition because it is a particular type of "investment entity" within section VIII(A)(6)(b) of the CRS. The Explanatory Notes to the draft Bill state that the purpose behind this exemption is to ensure that family trusts and charities (which are not generally regarded as financial institutions in the traditional sense) are excluded from the scope of any FIN.
Application to the non-UK trust industry
For CRS purposes, a trust constitutes an "entity" even though as a matter of general law (in most common law jurisdictions), a trust does not have legal personality. A trust will fall within the above class of "investment entity" where it has gross income primarily attributable to investing, reinvesting or trading financial assets and is managed by another entity that is a financial institution (e.g. a professional trust company). As a result, HMRC will be unable to issue FINs in respect of trusts themselves.
It is likely that the professional trust company that administers a trust as well as the custodian bank and investment manager which hold and manage that trust's assets, would constitute financial institutions for CRS purposes even if the trust itself is outside scope of a FIN. As a result, and adopting a literal interpretation of the legislation, it is plausible that HMRC could in the future be able to obtain information relating to the settlor, protector and/or beneficiaries of a family trust by issuing a FIN to any of these entities, so long as the information requested is not onerous for the institution to provide and the information is reasonably required by the officer for the purpose of checking the tax position of the taxpayer in question.
If a FIN were to seek to sidestep the trust exclusion in the above manner, there would, as currently drafted, be no scope to appeal the notice. There would only be scope to appeal a penalty for non-compliance. It might well be plausible to claim a reasonable excuse whilst a trustee seeks advice as to the application of the notice.
As it currently stands, any non-UK trustee in receipt of a first or third party notice under Schedule 36 ought to seek advice as to whether to comply with that notice and/or whether to appeal (if that right is available). There are confidentiality and data protection obligations which need to be considered, and a trustee needs to consider the appropriate balance to strike. In striking that balance, even though a UK tribunal might consider the notice to have extra-territorial effect, a non-UK trustee would need to consider what view a local court would take as to enforceability (and, for instance, whether a local court might decide that the proper channel for the request would be for HMRC to apply under the applicable Tax Information Exchange Agreement between the jurisdictions).
A non-UK trustee receiving a FIN would not be in a wholly dissimilar position, save that there remains scope to argue that the FIN does not apply extra-territorially, but if it does then the grounds of appeal to the UK tribunal are likely to be more limited. In considering the matter, a trustee is likely to need a combination of UK tax advice, together with local advice on data protection and the applicable trust law.