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HMRC internal manual

Enquiry Manual

Reopening Earlier Years: Discovery - Extending an Enquiry

The Courts have given their support for the view that in certain circumstances evidence of omissions from one or more years’ returns permits the Inspector to infer that omissions will have continued in other years.

You may find it useful to illustrate this point by reference to the decided cases EM3310+ explained below if the taxpayer or agent challenges your right to open other years. But you should first satisfy yourself that any inferences you are drawing about those years are reasonable in all the circumstances of your particular enquiry. It is not enough to quote judges’ remarks out of content.

In enquiry work two sets of circumstances frequently arise

  • proven omissions for the enquiry year but no investigation or evidence of omissions from previous accounts, for example, where a business economics exercise has been used for one year only or
  • proven omissions for some years but not for others for example, where capital statements have been used.

If the taxpayer does not accept that additions are required for all years or disputes the amount of the additions and this dispute is not resolved by the review process, the taxpayer will be able to notify their appeals to the tribunal for a decision. ARTG2100+ provides more detailed information on this process.

During your enquiry you will have obtained evidence of the conduct of the business, the record keeping, the lifestyle etc of the taxpayer and where some or all of these have pointed to understatements of income you must establish the reason(s) for these before proceeding further. If you have found only one omission in one year and when asked the taxpayer immediately offers a reasonable explanation for its existence, you would not be in a position to argue for additions to other years on that fact alone.

However if you have proven omissions for which there is no ready explanation and the business and way of life of the taxpayer have not changed you will be in a much stronger position to argue for addition to other years.

Taken together, then, the tax cases EM3310+ demonstrate that, in the absence of evidence to the contrary, a `presumption of continuity’ can be made and the Inspector can be entitled to conclude that under-declarations in some years can be taken as a pointer to under-declaration in others and make discovery assessments accordingly. If there is only one under-declaration shown in only one year, it will need something extra to show that other years’ accounts may be false.

Once the assessments are made and appealed against the onus is on the appellant to displace these. Where the appellant brings evidence, or the Inspector wishes to argue for an increase in the assessment, the `presumption of continuity’ does not and cannot replace the need for the Inspector to bring evidence to support his or her arguments. The most it can do is cast doubt on the appellant’s evidence where this suggests that the accounts do not understate profits but does not demonstrate a change in practices since the year(s) where the understatement of profits has been shown.

The `presumption of continuity’ alone does not justify increases in assessments, the onus is on HMRC to bring evidence in support of the argument. This emphasises the need for adequate estimated assessments to be made at the appropriate time.

These limitations on the use of the presumption of continuity are particularly important where you are considering reopening accounts prior to the incorporation of a business. Remember that the company and the sole trader (or partnership) are separate legal persons and evidence against one is not necessarily evidence against the other. This was brought out clearly in the court of appeal judgements in the case of Rose v Humbles, 48TC123. You will need to establish carefully the similarities in the business methods of the two periods and obtain if you can an admission that the faults apparent from the company investigation also existed in the earlier period.

Estimated or ‘protective’ assessments should not be raised before you have a case both for the existence of current year assessed liabilities and for the presumption of continuity.