HMRC initiates investigations against self-employed people when they have evidence of tax evasion or tax fraud; this accounts for more than 93% of tax investigations. Like any other organisation, they have limited resources and cannot afford to waste them. Consequently, a simple error on a self-assessment tax return such as submitting incorrect figures is not usually enough to warrant an investigation.
So, what are the circumstances likely to lead to an investigation? In this article, we outline the common triggers for an HMRC tax investigation, including signs to look out for, what an investigation entails, plus the information you need to protect yourself in the event of a tax tribunal.
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What Are The Triggers For An HMRC Tax Investigation?
Most of the time, HMRC needs to see a red flag in the data they’re gathering or receive information from a third-party to begin an investigation. However, it’s worth bearing in mind that HMRC tax investigations can be done at random; this accounts for around 7% of cases.
Some classic red flags consist of the following:
- Numerical anomalies on the tax return – Substantial variations highlighted via data analysis can be a cause for investigation. This can be anything that suggests a high likelihood of deception or tax evasion. It might include the possibility of undeclared income which may be detected through a significant profit swing compared to the previous year, or earning a gross profit margin outside of industry norms that hints at cash skimming.
- Mismatches between third-party data and the tax return – HMRC receives information from banks and other organisations on a constant basis. A discrepancy between what is declared and what is taken can be enough to trigger an HMRC tax investigation. HMRC deploy sophisticated data mining tools which cross-reference financial information across different organisations and sectors. They liaise with UK banks, The Land Registry, the DVLA, overseas tax authorities, and even crypto exchanges.
- Filing-behaviour triggers – Committing several late returns, payment surcharges, or amendments to a single return can trigger an investigation, alongside high return claims and repeated filings of single tax returns. For honest mistakes, you can still find yourself paying additional tax or receiving penalties such as warnings or fines.
- Sector- and scheme-based campaigns – These are what HMRC considers “high-risk industries”, meaning trades that work heavily with cash with fewer paper trails to record incomings and outgoings. These industries are often checked and more frequently than other sectors. Consequently, it’s always best to keep income and expense receipts for all cash transactions.
- External intelligence – External intelligence means “tip-offs”, so someone has informed on a person committing tax avoidance. This can be anyone from a PAYE employee to a disgruntled ex-partner. This alone isn’t enough to kickstart an HMRC tax investigation; first, the information has to be cross-referenced for corroboration before action is taken.
- Random checks – HMRC sets aside about 7% of enquiry cases for purely random checks.
Mistakes can trigger a tax investigation, and the bigger a business is, the more likelihood there is for errors. Consider hiring professional advice to file the business or company tax return each year to ensure you don’t fall foul of tax law and regulations. It can result in a criminal prosecution.
Depending on the reason for the investigation, HMRC will carry out one of the following two types of enquiry:
- Full enquiry – These investigations are reserved for those who HMRC believes, based on substantial evidence of suspicious activity, have violated tax law. They will take a deep dive into your entire business records to understand whether your tax position is accurate.
- Aspect enquiry – This type of enquiry focuses on a particular aspect of your financial records and is often a response when they find a mistake on your tax return. This type of investigation is short and sweet, and just focuses on rectifying the incorrect or missing details.
What Happens In A HMRC Investigation?
If your business is investigated by HMRC, all your financial information will be examined unless it’s an aspect enquiry where only one small part is scrutinised.
You will be sent an inspection or information notice in which HMRC will detail what they want to see, this may include:
- Your complete business account records, including details of tax calculations
- Sales invoices
- Bank statements
- Legal documents
- Documentation of paid taxes
- Your self-assessment tax returns
- Full details of expenses incurred with attached receipts
- PAYE records (if applicable)
HMRC will contact you if they find an issue with your self-assessment or corporation tax returns. This investigation will determine if the mistake was honest or a deliberate manipulation. They’ll tell you exactly what information they need from you – or your accountant, if you have one – and then you simply follow their requests. They may ask for further information to clarify any discrepancies or unusual activities in your financial records. A dedicated tax investigation specialist from HMRC may also visit your business premises during the investigation.
If the mistake was honest, there should be no consequences.
How Do I Know If HMRC Are Investigating Me?
If you are under investigation, you will be told as HMRC needs access to your business and accounting information. Destroying evidence that is relevant to an investigation is a criminal offence. HMRC has the power to conduct criminal investigations to uncover tax-related offences and serious fraud which can lead to criminal charges and even criminal prosecution. If HMRC finds evidence of deliberate behaviour including hiding, disposing of, or destroying relevant financial information, HMRC may carry out a criminal tax investigation.
You will receive a letter detailing the enquiry type alongside a request for the necessary documentation. This could be anything from your bank statements and sales invoices to transaction receipts and business expenses. In some cases, HMRC may issue an information notice to request specific documents or details. Meetings with HMRC inspectors can take place at your business premises or at the taxpayer’s accountant’s office.
If you have an accountant, they too will receive notification, so they can start preparing the relevant documents for the investigation. This might involve permission to access accounting or business software used to record business information, so that HMRC can view the records digitally and move the investigation along quickly.
How Long Does an HMRC Investigation Take?
Depending on the type of enquiry, an HMRC tax investigation can take anywhere from a few days to a couple of months. The information requested will usually have a bearing on how long the process takes. The process can be time-consuming, especially if extensive documentation and detailed reviews are required.
HMRC can conclude an investigation in several ways. For minor, unintentional violations of tax regulations, a warning is often given. In cases of clear violation, the tax investigation will end in the business being charged a proportionate fine on top of the unpaid tax – corporation or income tax. In some cases, you may also be required to pay any underpaid tax or outstanding tax liabilities identified during the investigation.
HMRC may issue penalties if they:
- Find consistent errors in the account sheets and business records (even if it was unintentional)
- Prove deliberate omission of important information on tax return documents
- Confirm an attempt to conceal income
A criminal charge of tax fraud is possible if a sole trader has consistently and deliberately evaded tax, but this is usually reserved for the most extreme cases. In most scenarios, the likely outcome is a hefty fine.
Business owners can challenge HMRC’s decision within 30 days of the conclusion of the investigation should they disagree with their findings. If you don’t already have professional support in place, then you may need to contact a legal adviser or accounting expert at this point.
If found guilty and in addition to any penalties, HMRC may insist upon periodic checks of your financial records to ensure you are filing accurate tax returns and you are fully aware of your responsibilities as a business owner.
Do HMRC Always Investigate Tip-Offs?
When do HMRC investigate self-employed people as the result of a tip off? There will always be a preliminary check to see if there is enough evidence to corroborate what has been alleged, but unless they already have their suspicions, they won’t usually go any further.
When checking the validity of a tip-off, HMRC will typically review previous assessments and tax returns to ensure they are accurate. If HMRC finds a discrepancy, then an investigation may follow.
Do HMRC Do Random Checks?
HMRC do carry out random checks and audits on different sole traders and businesses each year, but with so many business owners in the UK, the chances of your company being selected are usually quite slim. However, businesses that present a significant risk due to discrepancies or unusual activities in their tax records are more likely to be selected for random checks. Some trades and industries are higher profile, for example, taxi drivers, along with other self-employed individuals, who are often under scrutiny due to the nature of their income reporting.
The best way to be prepared for an unexpected check or investigation is to always ensure your financial records are up-to-date and easily available.
Final Thoughts
As a business owner, you have a duty to get your self-assessment tax return right. Tax laws exist to prevent money laundering, tax avoidance and other issues that can get in the way of the government receiving legitimate revenue which it uses to fund public services. We recommend hiring an accountant or a tax advisor as your business develops, to ensure you keep your financial procedures and tax reporting healthy and in good shape. If you also need to submit VAT returns, then this is a double imperative.
Whatever you decide to do, you should find comfort in the fact that HMRC doesn’t actively try to catch honest business owners out. You need only fear HMRC investigations if your tax affairs are not strictly above board.
