"Hidden Economy" - HMRC faces big challenge catching tax dodgers

A new report published yesterday by the House of Commons Public Accounts Committee reveals the big challenge ahead for HMRC in tackling the hidden economy and non payment of tax by individuals or businesses, according to a leading accountancy body.

Chas Roy-Chowdhury, head of taxation at ACCA (the Association of Chartered Certified Accountants), warns: “The report recommends that the taxman’s searchlight shines on the home repair and improvement sector and buy-to-let landlords, as well as continuing to focus on small businesses, non-VAT registered businesses and employers’ compliance.”

Assessing the scale of the hidden economy itself is an issue for HMRC, as the report reveals that the department has no reliable estimate of the tax lost from the hidden economy. It also says that HMRC has not fully assessed the risks to tax collection from different sectors and groups in the hidden economy.

Mr Roy-Chowdhury adds: “Detection rates are low at only 1.5 per cent, meaning that non-payers stand less chance of getting caught. Tracking non payment of tax - by ghosts and moonlighters - is an extremely difficult job for the taxman. And it is likely to become harder in the current economic climate. In the recent Pre-Budget report, the government said that HMRC would offer tax payment deferment for up to two years. The authority now has a difficult balancing act to achieve, to chase non-payment while allowing deferment.

“The report advises that the taxman communicates better the benefits of joining the formal economy - but these benefits are hard to understand for most. Cash-in-hand payments are tempting when money is tight and when people are concerned about their income. Doing the right thing becomes harder and people don’t see immediate benefits of paying tax.”

The report also recommends that the Department should publicise more the benefits of joining the formal economy and how to do this, saying that it should also use publicity campaigns to encourage take up of further voluntary disclosure. It has a lot of work to do in chasing tax evasion hotline cases with some 11,900 awaiting investigation. Publicising successful investigations and the resulting fines could act as a deterrent to ghosts and moonlighters in the future.

But there appears to be little deterrent - the report discloses that the Department can impose penalties of up to 100 per cent of the tax detected, but it usually imposes an average penalty of only three per cent. A new penalty regime comes into force soon, and the Public Accounts Committee suggests that HMRC should use the full range of penalties available, and track the number and value of penalties levied compared to the tax involved. It should also rigorously apply the penalty rules for those it detects who failed to come forward voluntarily under the Offshore Disclosure arrangements.

Mr Roy-Chowdhury concludes: “The Public Accounts Committee has laid down a series of tough recommendations for HMRC, so 2009 looks to be a demanding year for the department. ACCA believes that tax systems should be transparent, simplified, fair and certain – the fact that ghosts and moonlighters still exist means that the system is still not fair and that non-payers of tax can hide behind the system’s lack of transparency.”