Diverted Profits Tax: HMRC ‘big stick’ diminished by FTT closure notice decision
First-tier Tribunal directs HMRC to issue closure notices in relation to transfer pricing enquiries despite ongoing Diverted Profits Tax review period
First-tier Tribunal directs HMRC to issue closure notices in relation to transfer pricing
Update 8 November 2021: Following publication of this article, at Autumn Budget 2021 on 27 October, the Government announced it would introduce legislation in Finance Bill 2022 to specify that HMRC cannot issue a closure notice in respect of profits subject to a DPT charge until after the review period ends. This will have effect for any DPT review periods which are open at 27 October 2021 (or are opened after that date).
In Vitol Aviation UK Ltd & ors v Revenue & Customs  UKFTT 353 (TC), several subsidiaries (the applicants) in a global energy and commodity trading group applied to the First-tier Tribunal (FTT) for closure notices in respect of HMRC enquiries into corporation tax self-assessment (CTSA) returns filed by those companies for the accounting periods ended 31 December 2016-2018. This case will be of interest to companies with ongoing transfer pricing enquiries where Diverted Profits Tax (DPT) notices (sometimes referred to lightly as HMRC’s ‘big stick’) have been issued or may be issued and the enquiries have reached an advanced stage where HMRC have been provided with all reasonably required information to make an informed judgement as to the matters under enquiry.
In this case the closure notices were requested to bring HMRC enquiries to a conclusion. The enquiries related to the determination of whether arm’s length prices were charged for the services supplied by two UK group companies to an associated enterprise in Switzerland. The impetus for these enquiries and the DPT notices which were issued by HMRC was a request from the applicants for a bilateral UK-Switzerland Advance Pricing Agreement (APA) in 2015, shortly before a previous unilateral APA was due to expire.
The benefit to the applicants, of HMRC issuing closure notices, was that they could then appeal the closure notices (assuming they disagreed with the quantum of the adjustments) ensuring that any litigation was a corporation tax rather than a DPT matter. If, alternatively, they had amended their return themselves (i.e. to defeat the DPT charge) they would not be able to appeal. Where no amendment is made during the DPT review period (absent the issue of a closure notice) then on expiry of the DPT review period the applicants’ only option to recover the DPT charged would be to litigate against the DPT charged.
Paragraph 33 of Schedule 18 FA 1998 (Para 33) allows a company to apply to the Tribunal for a direction that HMRC give a partial or final closure notice within a specified period. The Tribunal should give a direction unless it is satisfied that HMRC have ‘reasonable grounds’ for not giving a partial or final closure notice within a specified period. Para 33 places the burden of proof on HMRC to demonstrate that they have reasonable grounds for not giving a closure notice within a specified period.
The FTT granted the applicants’ request for closure notices on the grounds that HMRC had sufficient information to close the enquiries and had failed to show that there were reasonable grounds for refusing the application to issue a closure notice. HMRC were directed by the Tribunal Judge to issue closure notices within 30 days of the date of the decision in respect of each of the enquiries covered by the application.
HMRC put forward two main arguments why they had reasonable grounds for refusing to issue closure notices:
- the applicants had not provided information reasonably requested by HMRC and required for HMRC to arrive at conclusions needed to formulate closure notices; and
- the issue of closure notices for Vitol Broking Limited and Vitol Services Limited would pre-empt the end of the DPT review periods for these companies.
Ground 1: requested information outstanding
The Tribunal Judge found that by November 2020, when HMRC had sent a detailed letter to the Vitol Group setting out their position on the Vitol transfer pricing model, HMRC were in a position where they had made an informed decision as to the relevant matters under enquiry and had set out their conclusions and a basis on which amendments could be made to the relevant returns.
The findings in this case will be relevant more broadly when considering whether HMRC have been provided with all reasonably required information to make an informed judgement on transfer pricing matters under enquiry. The Judge noted that it is not reasonable for enquiries to be kept open so that HMRC could refine details of their conclusions in the manner suggested by HMRC in this case. Given the inherently imprecise nature of transfer pricing, refinements of calculations could continue indefinitely without ever reaching a conclusion. The Judge noted that this was recognised by the OECD as the requirement was for a ’reasonable estimate’ be made rather than expecting transfer pricing to be an exact science.
There were also some interesting findings in relation to the method by which a taxpayer can make confidential data available to HMRC.
Ground 2: DPT review has not ended
The Tribunal Judge did not accept any of the submissions made by HMRC that they should not be required to issue closure notices as this would pre-empt the end of the DPT review periods for these companies.
The Tribunal Judge referred to a 2018 statement of the Economic Secretary to the Treasury, which HMRC quoted in their own submissions. In the view of the Tribunal Judge this statement provided evidence that what is sought by the DPT legislation is that companies pay the correct amount of corporation tax and therefore corporation tax on diverted profits is considered a desired outcome of the rules. As HMRC had established what they considered to be the correct amount of corporation tax to be paid on the profits in dispute, it followed that “the purpose of the DPT legislation would be satisfied if the closure notice is issued in this case as the effect of issuing the closure notice would be to give the intended effect to the provisions of the DPT legislation”.
The Tribunal decision, if it stands, is likely to reduce the effectiveness of DPT as a means of incentivising taxpayers to make voluntary adjustments to their transfer pricing. The end of the 15 month DPT review period was a daunting prospect for taxpayers and the confirmation from the FTT that Para 33 applications for closure notices can be granted within the DPT review period will come as a welcome relief.