Appeal Reference: TC/2009/10865

[2010] UKFTT 485 (TC)

TC00745

Appeal reference: TC/2009/10865

INCOME TAX – CIS – penalties – whether reasonable excuse – no – whether penalties disproportionate – no – appeal dismissed

FIRST-TIER TRIBUNAL

TAX

MICHAEL MITCHELLAppellant

- and -

THE COMMISSIONERS FOR

HER MAJESTY’S REVENUE AND CUSTOMSRespondents

Tribunal: David Demack (Judge)

Richard Crosland (Member)

Sitting in public in Manchester on 19 August 2010

Mr Hampson, accountant, for the Appellant

Miss Whitley of HMRC for the Respondents

DECISION

The appellant, Mr Michael Mitchell, is an electrician who engaged his son, Shaun, to work for him as a subcontractor in carrying out construction operations, as defined in s.560 (2)(a) of the Income and Corporation Taxes Act 1988. Consequently, Mr Mitchell came within the Construction Industry Scheme (“the Scheme”).
The background to the legislation relating to the Scheme was considered by Ferris J in Shaw v Vicky Construction Ltd (2002) 75 TC 26 at 29:

“It became notorious that many subcontractors engaged in the construction industry ‘disappeared’ without settling their tax liabilities, with a consequential loss of revenue to the exchequer.

In order to remedy this abuse Parliament has enacted legislation, which goes back to the early 1970’s, under which a contractor is obliged, except in the case of a subcontractor who holds a relevant certificate, to deduct and pay over to the Revenue a proportion of all payments made to the subcontractor in respect of the labour content of any subcontract…”

Regulations were made under the legislation concerned. They included the Income Tax (Subcontractors in the Construction Industry) Regulations 1993 (“the Regulations”). Until 5 April 2007 the Regulations required any contractor to which they applied to make an annual return giving details of payments and deductions made to subcontractors in each tax year. Such returns were required to be made by 19 May following the end of the tax year to which they related. It is with such returns that this appeal is concerned.
Where a contractor failed to make his annual return by the due date, by s. 98A of the Taxes Management Act 1970 (“the Act”) he became liable to a penalty or penalties:

a) of the relevant monthly amount for each month during which the failure continued, but excluding any month after the twelfth (subsection (2)(a)); and

b) if the failure continued beyond twelve months, without prejudice to a penalty under (a) above, to a penalty not exceeding £3000 (subsection (2)(b)(ii)).

Since the returns related to less than 50 people, the “relevant monthly amount” for the purposes of (a) above was £100 (see subsection (3)(a).
By s.100B(2)(a) of the Act “in the case of a penalty which is required to be of a particular amount, on appeal the Commissioners may –

(i) if it appears to them that no penalty has been incurred, set the determination aside,

(ii) if the amount determined appears to be correct, confirm the determination, or

(iii) if the amount determined appears to be incorrect, increase or reduce it to the correct amount.”

However, by s.118 (2) of the Act “…where a person had a reasonable excuse for not doing anything required to be done he shall be deemed not to have failed to do it unless the excuse ceased and, after the excuse ceased, he shall be deemed not to have failed to do it if he did it without reasonable delay after the excuse had ceased…”
Mr Mitchell failed timeously to make his returns for the tax years 2002/03 to 2006/07 inclusive. In fact he made all five returns on 30 November 2007. Consequently, the Commissioners, applying the only the provisions of section 98A (2)(a) of the Act, imposed penalties on him totalling £5500.
Mr Mitchell appealed the assessments to the penalties claiming that the legislation was never intended to be as penal as it was in his case, particularly as his error was an innocent one. Further the penalties imposed represented 39 per cent of the total tax due in the five years in question (£14258).
It is common ground that Shaun Mitchell declared all the payments he received from his father on his own tax return. Consequently, under reg 9(4) Condition B of the Regulations Mr Mitchell was excused payment of the Scheme deductions which he should have made and returned to the Commissioners.
As we understand him, Mr Hampson, Mr Mitchell’s accountant who appeared on his behalf, accepts that Mr Mitchell has no reasonable excuse for his failure timeously to make the returns. He simply maintains that the relationship between father and son in a contractor-subcontractor relationship is unusual and, in the instant case, probably caused Mr Mitchell not properly to consider matters; had he engaged someone outside the family as subcontractor he would probably have realised that the Scheme applied and dealt with the matter accordingly. (Mr Mitchell had himself been a subcontractor, so that he was familiar with the Scheme).
Mr Hampson also submits that the imposition of penalties totalling £5500 is out of all proportion to Mr Mitchell’s “offence”; the penalty regime does not differentiate between deliberate and innocent errors. Further, the absence of a power in the tribunal to mitigate the penalties imposed is harsh and unfair: Mr Mitchell’s rights under the European Convention on Human Rights have been infringed, the penalties being disproportionate.
For his submissions in the last preceding paragraph, Mr Hampson relies on the decision of Special Commissioner Dr Avery Jones in Austin v Price (Inspector of Taxes) (2004) SpC STC 426, where he held, inter alia, that penalties imposed under s.98A (2)(b)(iii) of the Act for the making of late tax returns were excessive and, applying s. 200B (b)(iii), reduced them by half.
Mr Hampson also relies on the decision of Judge Bishopp in Enersys Holdings Ltd v Commissioners of Revenue and Customs (2010) TC 00335 where the judge held that the imposition of a default surcharge of £131,881 on a taxpayer submitting a VAT return one day late, the penalty representing an annual interest rate of 1825 per cent on the tax due, was incompatible with Community law principles. Mr Hampson submits that the appeal should be allowed.
In response, Miss Whitley contends that proportionality is not a test the law allows; the penalties imposed on Mr Mitchell are set by legislation and, in the absence of a reasonable excuse, are legally due. In any event, the Commissioners have already shown a measure of proportionality in not imposing a second penalty under the provisions of s.98A (2)(b) of the Act.
She notes that “reasonable excuse” is not defined in the Act and, in reliance on the decision in Customs and Excise Commissioners v Steptoe [1992] STC 757 and “other tax cases” which she did not identify, maintains that a reasonable excuse is viewed by the Commissioners as an unforeseeable or inescapable event which, despite the exercise of reasonable forethought and due diligence could not have been avoided.
Miss Whitley accepts that proportionality has not been tested in relation to penalties under the Scheme, but observes that it did come before the court in Barnes (Inspector of Taxes) v Hilton Main Construction Ltd [2005] STC 1532, a case involving the Scheme, where it was held that proportionality was not a test the General Commissioners were allowed to apply in the circumstances. Although that case concerned the refusal of the Commissioners to renew an exemption certificate under the Scheme, Lewinson J dealt with proportionality generally. At para 22 of his judgment, he said that:

“If the [Scheme] legislation were to incorporate a general test of proportionality, that would place a heavy burden on tax inspectors to conduct a prospective review of the potential effect of refusal of a certificate on individual businesses.”

And at para 23, the learned judge added:

“There may be social, economic and administrative arguments for and against the imposition of such a burden [the incorporation in the legislation of a general test of proportionality], or there may be other solutions to perceived injustices in the statutory scheme, but they are matters for debate and legislation, not for interpretation by a court. In those circumstances I consider that the General Commissioners application of a test of proportionality was not a test that the legislation allowed them to apply.”

In the light of those observations, Miss Whitley maintains that the legislation does not allow for a test of proportionality.
Miss Whitley also draws our attention to the recent decision of Judge Coverdale in R King v Commissioners of Revenue and Customs (2010) TC 00391, a First Tier Tribunal case dealing with penalties totalling £17,600 for the appellant’s failure to submit 21 monthly returns by the due date. As in the instant case, the appellant faced fixed penalties of £100 per month for the first year of default, but in that case they were followed by second penalties because the failure extended over twelve months. Miss Whitley particularly draws our attention to paragraphs 9 and 10 of the Judge’s decision, where he said:

“The absence of financial loss by HMRC is not a matter that can be taken into account; it cannot be classified as a reasonable excuse by the taxpayer in this case: and, likewise, proportionality is not an issue that is relevant to the question of reasonable excuse and is not a matter upon which the Tribunal can adjudicate.”

We were informed that the decision in R King is under appeal to the Upper Tribunal.
In those circumstances, since the Commissioners have already acted proportionately in not assessing Mr Mitchell to penalties under s. 98A (2)(b) of the Act, and the penalties imposed on Mr Mitchell have been correctly calculated, Miss Whitley submits that the appeal should be dismissed.
The first thing we must record in our conclusion is that the Commissioners have correctly calculated the penalties assessed on Mr Mitchell. Secondly, we hold that Mr Mitchell has no reasonable excuse for his failure timeously to make the returns due from him. We do so because he has offered no excuse whatsoever for his failure to make the returns timeously rather than in reliance on the definition of reasonable excuse offered by Miss Whitley. The definition she offered may be a suitable starting point in determining whether a taxpayer has such an excuse, but in the absence of argument as to the precise meaning of the expression we do not regard it as exhaustive. Thirdly, we may usefully mention that we are satisfied that in not imposing penalties under s. 98A (2)(b)(ii) of the Act, the Commissioners have already shown an element of proportionality. Fourthly, we observe that the penalties with which Dr Avery Jones was concerned in Austin v Price were not the fixed penalties provided for by s. 98A (2)(a) of the Act, but rather flexible penalties for which s. 97AA (1)(b) of the Act provides. Consequently, the flexibility in fixing them available to the Commissioners and, on appeal, to Dr Avery Jones is not available to us.
The parties did not develop the proportionality arguments beyond those we have mentioned. It therefore falls to us to extend the consideration of them in more detail. We propose to do so using the Convention case law argued before Judge Bishopp in the Enersys case.
However, before doing so, we should also record that in our judgment there is nothing in the manner in which appeals against assessments to penalties for breaches of the Scheme are heard which offends article 6 of the European Convention on Human Rights. We have the power “to quash, on questions of fact and law, the decision of the body below”, see Taddei v France (1998, Application 36118/97 before the ECHR). As in Taddei, we are not permitted to reduce the penalties imposed on Mr Mitchell, but we may discharge the assessments if we consider the penalties disproportionate.
Simon Brown J (as he then was) dealt with the question of disapplication of tax penalties in Customs and Excise Commissioners v Peninsular and Oriental Steam Navigation Co [1992] STC 809, saying at 821g:

“My inclination, therefore, for the purposes of this appeal is to assume without finally deciding that in circumstances such as arise here the court could indeed strike down national penal legislation simply on the ground that it offends the principle of proportionality. That said, however, it seems to me that only most exceptionally could the court properly do so.”

(We should mention that the judgment of Simon Brown J was reversed by the Court of Appeal on grounds irrelevant to proportionality, on which it expressed no opinion, see [1994] STC 259).
Simon Brown LJ, as he later became, was a member of the Court of Appeal which dealt with International Transport Roth GmbH v Home Secretary [2003] QB 728, a case concerned with whether fixed penalties imposed on hauliers whose vehicles were found to contain clandestine entrants to the UK, with but little opportunity to escape penalties, no possibility of mitigation and no access to an independent tribunal, were disproportionate. The court held that they were. O Simon Brown LJ opined:

“[26] … it seems to me that ultimately one single question arises for determination by the court: is the scheme not merely harsh but plainly unfair so that, however effectively that unfairness may assist in achieving the social goal, it simply cannot be permitted? In addressing this question I for my part would recognise a wide discretion in the Secretary of State in his task of devising a suitable scheme, and a high degree of deference due by the court to Parliament when it comes to determining its legality. Our law is now replete with dicta at the very highest level commending the courts to show such deference. I take as a single example what Lord Bingham of Cornhill said in Brown v Stott [2003] 1 AC 681,703:

“Judicial recognition and assertion of the human rights defined in the Convention is not a substitute for the processes of democratic government but a complement to them. While a national court does not accord the margin of appreciation recognised by the European Court as a supra-national court, it will give weight to the decisions of a representative legislature and a democratic government within the discretionary area of judgment accorded to those bodies…”

[27] That said, the court’s role under the 1998 Act is as the guardian of human rights. It cannot abdicate this responsibility. If ultimately it judges the scheme to be quite simply unfair, then the features that make it so must inevitably breach the Convention.”

We propose to adopt the dictum of Simon Brown LJ mutatis mutandis, it in our judgment being apposite in the instant case.
We then ask: has Parliament struck the right, i.e. proportionate, balance between the punitive and deterrent aims of the penalty on the one hand, and reasonableness on the other? The approach to be adopted in answering that question was offered by Lord Nicholls of Birkenhead in Wilson and others v Secretary of State for Trade and Industry [2004] 1 AC 816 at para 62:

“The legislation must not only have a legitimate policy objective. It must also satisfy a ‘proportionality’ test. The court must decide whether the means employed by the statute to achieve the policy objective is appropriate and not disproportionate in its adverse effect. This involves a ‘value judgment’ by the court, made by reference to the circumstances prevailing when the issue has to be decided. It is the current effect and impact of the legislation which matter, not the position when the legislation was enacted or came into force.”

In our judgment the Enersys case involved wholly exceptional features such as are completely absent from the case before us. Consequently, we distinguish it from the present case.
It follows from the judgment of Simon Brown LJ in Roth (see para 26 above) that if the system is not disproportionate, the penalty must stand, even if it may be thought excessive. As Ferris J indicated in his judgment in Shaw v Vicky Construction (see para 2 above) the Scheme was introduced to deal with a serious problem and, in those circumstances, we should not expect penalties under it to be nominal. Notwithstanding that the penalties imposed on Mr Mitchell are relatively high, and thus may be considered harsh, in our judgment there is nothing before us that would enable us to conclude that in setting them at a high level Parliament has exceeded a proper margin of appreciation.
It follows that we dismiss the appeal.

This document contains full findings of fact and reasons for the decision. Any party dissatisfied with this decision has a right to apply for permission to appeal against it pursuant to Rule 39 of the Tribunal Procedure (First-tier Tribunal) (Tax Chamber) Rules 2009. The application must be received by this Tribunal not later than 56 days after this decision is sent to that party. The parties are referred to “Guidance to accompany a Decision from the First-tier Tribunal (Tax Chamber)” which accompanies and forms part of this decision notice.

DAVID DEMACK

TRIBUNAL JUDGE

Release Date: 11 October 2010