PAC report: HMRC must ensure it is never easier to cheat the tax system than comply  

- Tax compliance yield down by £9 billion over the 2 years of pandemic  

- Likely that many more non-compliant taxpayers will escape paying their fair share of tax undermining sense of fairness 

- HMRC cannot demonstrate a credible deterrent effect of its tax-compliance work 

In response to the emergency of the pandemic, HMRC redeployed more than 4,000 compliance staff to work on the government's new COVID support schemes. As a result, total tax revenues fell, as did compliance yield (the additional revenues protected as a result of HMRC’s interventions). 

The disruptions caused by the pandemic and the cost-of-living crisis mean the tax gap is highly uncertain, and levels of non-payment are rising.  HMRC says its strategy is to prosecute the most serious forms of evasion and criminal activity, and that it focuses on high-value and high-profile cases rather than large volumes of smaller cases. But it does not expect compliance investigations and prosecutions to return to pre-pandemic levels. The PAC is concerned that without sufficient numbers of prosecutions HMRC cannot demonstrate a credible deterrent effect.   

The Committee says this makes it hard to have confidence that HMRC will live up to its claim that no tax will go uncollected as a result of the pandemic, and critically it could undermine the sense of fairness on which the tax system relies.   

Key findings:  

·         Tax revenue directly attributable to HMRC compliance work (compliance yield) fell as a proportion of tax revenue from an average of 5.2% before the pandemic to 4.2% in 2021-22, the lowest level since 2011-12.  

·         This equates to a loss of £9 billion of compliance yield collected over the two years (2020-21 and 2021-22) compared to pre-pandemic.  

·         Staff working on tax compliance generated £1.1 million of compliance yield a year per staff member, compared with £1.3m before the pandemic. 

·         HMRC opened 114,000 (32%) fewer cases in 2020-21 than the previous year and paused many ongoing ones. 

·         As well as prosecuting fewer people for non-compliance, HMRC is not doing enough to help those who want to pay their taxes correctly. 

·         HMRC does not have the resilience to deal with expected growth in the tax gap (the difference between the amount of tax that should, in theory, be paid to HMRC to fund vital public services, and what is actually paid). 

Dame Meg Hillier MP, Chair of the Public Accounts Committee, said: “HMRC’s ability and efforts to draw in the tax that is so desperately needed to pay for public services were seriously compromised by the pandemic. That alone is bad enough in the current economic crisis but we need to see more effort from HMRC get this back. It is simply not doing enough to deter and punish cheats, even at very high levels. It also needs to help people who want to do the right thing. We cannot and must not arrive at a situation in the UK where it is easier to cheat the tax system than it is to comply with it.”  

PAC report conclusions and recommendations 

6.      HMRC’s reprioritisation of staff for the pandemic response inevitably led to less tax compliance activity. HMRC needed to redeploy experienced compliance staff to support the new COVID schemes. The number of staff it redeployed varied over the pandemic, but on average 1,356 full-time equivalent (FTE) compliance staff worked on the COVID schemes in 2020-21, peaking at more than 4,000 FTE in May 2020. It was inevitable this would reduce tax compliance activity. HMRC opened 114,000 (32%) fewer cases in 2020-21 than the previous year and paused many ongoing ones. Despite this, it was more than a year before HMRC began recruiting at scale to address the resource shortage that resulted from having to redeploy staff. The pandemic also affected the productivity of staff that remained working on tax compliance. During the two pandemic years, compliance yield per staff member fell from £1.3m a year to £1.1m (in 2021 prices). HMRC has since taken action to address the shortages in staff numbers, and recently recruited 4,200 new compliance staff, leading to 2,500 more FTE than in 2021-22. However, the return per staff member is likely to stay lower than before the pandemic due to lack of experience among newer staff. 

Recommendation 1: HMRC should learn from the experience of staffing challenges in the pandemic and specify how it can respond more quickly where it looks likely compliance work will not keep pace with levels of non-compliance. 

7.      HMRC does not expect to prosecute as many people for tax evasion as it did before the pandemic. HMRC prosecuted far fewer cases during the pandemic than before 2020. It has said publicly that no one will escape prosecution and that it has up to 20 years to follow up on cases of fraud. However, it also said it would not prosecute as many people as before the pandemic, despite a reduction of around 1,000 cases during the two pandemic years. HMRC says its strategy is to prosecute the most serious forms of evasion and criminal activity, and that it focuses on high-value and high-profile cases rather than large volumes of smaller cases. However, we are concerned that, without sufficient numbers of prosecutions, HMRC cannot demonstrate a credible deterrent effect. We have previously recommended that HMRC should measure the deterrent effect of its work, but it concluded that it could not do so. 

Recommendation 2: HMRC should develop a better understanding of the deterrent effect of its compliance work, for example by monitoring the future revenue benefit of prosecutions compared to those it decides not to prosecute. It should utilise the expertise of academics, if necessary, for example using the HMRC Datalab. 

8.      Compliance yield fell during the pandemic, and HMRC does not know what level it should be targeting with its current resources. In the five years before the pandemic, HMRC collected on average around 5.2% of tax revenues through its compliance work. This fell significantly during the pandemic, initially to 5.0% in 2020-21 and then 4.2% in 2021-22. This drop equates to a £9 billion reduction in compliance yield over the two years, compared with previous performance. HMRC maintains that no tax will go uncollected as a result of the pandemic. However, it would not be drawn on the future level of compliance yield it can generate beyond the current year’s target of £36 billion, citing uncertainty in the economy and inflationary pressures. We are concerned that any compliance yield projections or targets it expresses in cash terms will not be sufficiently stretching during a period of high inflation. HMRC will need compliance yield to exceed 5.2% of tax revenues over the next few years to demonstrate it has caught up with the impact of the pandemic. 

Recommendation 3: HMRC should set a clear target of the compliance yield required to make up the shortfall during the pandemic, and specify a rolling target for compliance yield as a percentage of tax revenues. 

9.      HMRC is not doing enough to help those who want to pay their taxes correctly. Taxpayers who want to pay their tax sometimes need help to get it right, and both the pandemic and the economic situation since have put pressure on people and businesses. Tax debt levels have risen again – from £39.4 billion in April 2022 to £45.7 billion in November 2022 – rather than decrease as HMRC initially expected. HMRC has made changes to its debt management practices, including tailoring its approach to each taxpayer’s circumstances and ability to pay, and informing this with new data from credit reference agencies. It has improved its productivity at recovering overdue debts, which we welcome. However, this has still not been enough to stop debt levels rising due to the number of people finding it difficult to pay. HMRC’s customer services are also struggling with high call volumes, particularly at certain times of year, meaning those who need help to get their tax affairs right cannot always get support. Taxpayers who want to put their affairs right can find it hard to do so due to inflexible repayment practices and confusing correspondence from HMRC. 

Recommendation 4: HMRC should ensure it is providing sufficient support to taxpayers, big and small, who want to pay their tax. It should look at whether the additional staff it has secured for debt recovery work are sufficient, given it is struggling to keep up with demand even with better productivity. 

10.  We are concerned that HMRC may be overstating the impact of its compliance work, and that it is overcharging some taxpayers. HMRC tests 400 of its completed compliance cases each year. In 2021-22, 80 of these cases had errors in the compliance yield recorded, which were skewed towards overstating yield. HMRC’s testing also found seven cases where it had overcharged the taxpayers by a total of £32 million. HMRC says that it has controls in place to prevent over-recording of yield but acknowledges that it does not know to what extent the errors identified are representative of compliance yield as a whole being overstated. HMRC also cannot estimate how many taxpayers it is overcharging following compliance enquiries, or by how much. It says that there has been a slight improvement in the quality of its casework in the past year but acknowledges that the number of overcharges identified in its sample testing is too high. HMRC has agreed to update its testing approach so that it can better estimate the extent of errors it makes. 

Recommendation 5:  

a.      HMRC should develop statistically robust estimates of the level of error in its compliance yield measure, and how far taxpayers are overcharged. 

b.      HMRC should demonstrate it has taken all proportionate steps to identify and correct overcharges. It should make clear what compensation is available if taxpayers are overcharged. 

11.  There are signs that the tax gap may grow, and that HMRC does not have the operational resilience needed to deal with this. HMRC is funded to stop the tax gap from growing. The tax gap is an important measure of how much revenue may be missed – due to evasion, avoidance or non-payment – that could otherwise fund vital public services. Due to the way it is estimated, the tax gap does not yet reflect the full impact of the pandemic and will not do so for some time. HMRC’s latest estimate is that the tax gap was stable in 2020-21, but HMRC says that this has a much larger range of uncertainty than normal and may need to be revised as it gets more data. There is a significant risk that the tax gap will grow, in light of compliance yield dropping and levels of debt and non-payment rising. HMRC’s own planning estimates indicate that it is unlikely to generate enough compliance yield to stop the tax gap from growing in the next few years. However, it does not have a contingency plan if this happens. Since it takes four years to get compliance staff fully trained and up to speed, there could be a long lag if HMRC waits to determine whether it needs more resources. HMRC has up to 20 years to pursue cases of suspected non-compliance, but this only applies to fraud cases. For errors the period is less, and in some cases HMRC cannot go back more than four years. 

Recommendation 6: 

a.      HMRC needs to build in more resilience to the tax system, with the tax gap at risk of growing and high returns available from compliance work there is a strong value for money case for increasing resources.  

b.      At a minimum, HMRC should specify a contingency plan for bringing in additional compliance capacity to ensure increased levels of non-compliance can be tackled quickly, and before the window closes for investigating cases it did not pursue during the pandemic.

ENDS 

Full inquiry information including evidence received: Managing tax compliance following the pandemic