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Defending tax professional negligence claims – what insurers and instructing lawyers need to know and how the tax expert witness can assist
  • Jun 7, 2022
  • Latest Journal

By Fiona Hotston Moore FCA CTA MAE, forensic accounting partner at FRP Advisory

Recent years have brought a number of professional negligence claims against accountants relating to apparently legitimate tax schemes that have subsequently fallen foul of HMRC.

The claims – relating to tax structures including film schemes and ”disguised remuneration” schemes – have in many cases arisen from HMRC subsequently investigating and the courts finding against an accountancy firm’s clients. In other instances, clients have proactively referred themselves to the tax authority having investigated and developed their own concerns about a scheme’s structure, or have uncovered potential issues with schemes they participated at the point they are selling their business.

In my experience, liability can arise because many accountants and their clients failed to understand how aggressive these historic schemes were. Furthermore, in many cases the tax landscape and case law changed over a matter of a few years. Schemes that might have been capable of working when originally designed may have fallen foul of legislative changes or case law. On occasions the scheme failed due to errors in implementation.

Disguised remuneration schemes, for example, saw people paid in loans to avoid paying tax and National Insurance. However, the schemes were shut down in 2019 and HMRC gave taxpayers a limited window to settle substantial tax bills to avoid punitive penalties.

We’ve also seen multiple claims against the same firm of accountants in relation to a particular scheme that has been promoted to a number of clients. Claims may arise after accountants stepped outside their day-to-day expertise to offer schemes to clients that weren’t in their skill set or suitable to the client’s risk appetite.

In many cases, the promoters operating such schemes subsequently disappeared into the ether, leaving only the accountants who acted as an introducer to face repercussions. They now face claims on their professional indemnity insurance policies.

Whatever the circumstances leading up to the complaint, this has a direct implication for a defending accountant’s insurers, who could see a potentially sizeable claim on a policy and the accountant who may face reputational damage, disciplinary action from their professional body and a liability for the uninsured excess.

With claims usually settled out of court through mediation, thoughtful, thorough assessment of a client’s liability to determine whether they acted as a ‘reasonably competent professional’ will help insurers assess policyholders’ culpability, and ultimately any appropriate settlement.

In this process, there will be a few key steps to keep in mind.  

A forensic investigation of tax legislation, relevant case law and the conduct of the accountant
The first step of any liability assessment must be to determine what the tax scheme itself was intended to do.

Insurers and their legal counsel will need to know how the scheme was envisioned and designed to operate at its point of execution.

This must be irrespective of how legislation or HMRC guidance subsequently changed or developed – negligence cannot be upheld if it was feasible that the scheme would have been legally permissible at the time an accountant was brought onboard. It will also be critical to examine whether the scheme was subsequently implemented as envisioned by the accountant or promoter, and whether pertinent tax counsel was sought and heeded.

The next stage should include a review of the marketing material for the scheme, the accountant’s interpretation of it and how much, or little, the accountant was involved in promoting it to the client.

In some cases, it will be that accountants merely made introductions to scheme promoters and may have given appropriate warnings to their clients at the time about potential risks down the line.

If firms were actively involved in a scheme’s execution or promotion, a defence should examine factors such as whether they understood and accounted for their client’s risk appetite; how or whether they outlined the potential for legislation, case law and HMRC’s own guidance on the scheme to change and whether they considered any less aggressive tax-optimisation alternatives.

From here, insurers will need to consider how the claimant acted in any correspondence with HMRC, including whether any alternatives to paying claimed outstanding tax were explored, or whether payment was made immediately to the tax authority without any due consideration of mitigation.

And, importantly, it will be essential to determine the quantum of the loss. This will need to account for any tax bill itself. But claimants may also register a claim for the opportunity cost against an accountant – the potential profit lost when capital that could otherwise have been channelled into the business is now instead paid in tax.

All the answers?
The process of determining negligence can be highly complex. And this complexity can only be compounded by the historic nature of many of these tax schemes, and the need to identify and source experts with contemporaneous knowledge of how they were operated and implemented at the time to build a thorough defence.

At FRP we have extensive experience acting as expert in tax and audit professional negligence matters for both Defendant and Claimant.

Fiona Hotston Moore