Reasonable care in compeleting tax returns
09 June 2014
Posted by: Author: Danielle Botha
Author: Danielle Botha (DLA Cliffe Dekker Hofmeyr)
Judgement was handed down in the case of Harding v Revenue
and Customs Commissioners  UKUT 575 (TCC) in the Upper Tribunal (Tax and
Chancery Chamber) on 15 November 2013. The case revolved around the question of
whether an omission by a taxpayer of a severance payment in his tax return
amounted to a ‘careless mistake’ in terms of the United Kingdom Finance Act,
2007 (UK Finance Act).
The Appellant held a senior position in a company forming
part of a leading accounting practice. He entered into a compromise agreement
with his employer whereby his contract of employment was terminated and he
received approximately £110,000.00 in severance payments (payment). The amount
included performance-related bonuses in relation to his work. The Appellant
omitted to include this payment in his tax return. However, his previous
employer submitted a tax return to Her Majesty’s Revenue and Customs (HMRC), which
included the payment. Consequently, he was assessed by HMRC and a penalty was
imposed on him for careless inaccuracy in his return due to the understatement
of his income.
The Appellant appealed against the penalty to the First-tier
Tribunal (FTT) on the grounds that his failure to include the payment in his
return was not careless, as he genuinely believed that the payment would not be
subject to tax because it was made after the termination of his employment. The
Appellant’s employment was terminated on 31 October 2008 and his payment was
only received later in November 2008. In support of his argument, the Appellant
submitted evidence regarding an article from a tax website purportedly stating
that severance payments such as the one received by him, were not taxable when
they were paid after termination of employment.
The FTT dismissed the appeal stating that they were satisfied
that the Appellant entertained considerable doubt as to whether the amount was
in fact taxable, but failed to take steps to ascertain the correct position.
Furthermore, there was no evidence that the Appellant took appropriate advice from
an independent source or the HMRC.
The Appellant subsequently appealed to the Upper Tribunal.
The Upper Tribunal examined the article on which the
Appellant relied as well as the compromise agreement entered into with his
employer and found that:
- The compromise agreement contained a paragraph
headed "Taxation” which provided that the first £30,000.00 of the payment was
not subject to tax, but that any remaining balance shall be subject to
deductions in respect of tax at the appropriate rate.
- The article made it clear that any payment received
in connection with the termination of employment is taxable, but that in some circumstances
the first £30,000.00 of such payment is tax free.
The Upper Tribunal consequently held that the decision of
the FTT be upheld for the following reasons:
- The Appellant admitted that he considered that the payment
was possibly subject to tax.
- The Appellant is an intelligent person, who held a senior
position in a company forming part of an accountancy practice. It was not credible
to propose that he could conclude that there was no possibility of the payment being
- The self-assessment the Appellant made contained an
inaccuracy which led to an understatement of his liability to tax. That inaccuracy
was careless, since it was due to the failure of the Appellant to take
- The Appellant failed to take reasonable care because he
knew, or should reasonably have known, that there was at least a possibility that
the payment was liable to tax.
Relevance for South
Schedule 24 to the UK Finance Act contains provisions
largely similar to those of the Tax Administration Act, No. 28 of 2011 (TAA) in
that it provides that a penalty may be levied on an understatement of tax
liability, where the understatement was the result of an inaccuracy in a return
due to a failure by the taxpayer to take ‘reasonable care’. ‘Reasonable care’
implies that the taxpayer knew or should reasonably have known that the given
outcome could occur.
S223 of the TAA contains the understatement penalty
percentage table. In terms of item (ii) of the table, where reasonable care was
not taken in completing a return, a penalty percentage of 15% must be applied
in respect of standard cases, and 50% where the taxpayer’s behaviour has been ‘obstructive’
or if the matter was a ‘repeat case’.
In a South African context, in determining whether ‘reasonable
care’ was taken, one would test the conduct in question against the objective
criterion of the reasonable person. This means that conduct will be seen as
negligent, or that reasonable care was not taken, if it is not in accordance
with the conduct expected of the reasonable person who finds himself in the
same situation. Conduct will be negligent where the reasonable person would
have acted differently under the same circumstances, in that he would have
reasonably foreseen the consequences of his actions, and taken steps to avoid
such consequences. This test was laid down in Kruger v Coetzee 1966 (2) SA 428
If the facts in the Harding case were to be tested against
the TAA, and the ‘reasonable person’ test was applied, then it is submitted
that the South African Tax Court would likely have come to the same conclusion
as that reached by the Upper Tribunal.
One could however speculate whether the same set of facts
would be considered by the South African Revenue Service (SARS) to fall within
the ambit of item (iv) of the penalty percentage table, being ‘gross
negligence’. Generally the ‘reasonable person’ test is also applied when
testing for gross negligence, however, in terms of SARS’s Short Guide to the
TAA, gross negligence calls for a disregard of the consequences of one’s
actions and recklessness.
SARS could consider such an omission on a return as ‘intentional tax evasion’
in terms of item (v) of the penalty percentage table. However, the concept of
intention generally requires a person to direct his will at achieving a
particular result while being aware that the conduct in question is wrongful
(Dantex Investment Holdings (Pty) Limited v Brenner 1989 (1) SA 390). SARS’s Short Guide to the TAA describes intention in terms of item
(v) of the table as ‘acting wilfully or with a guilty mind’.
The relevance of the Harding case for South African
taxpayers is that the fact that one genuinely believes that a particular tax
position is correct will not absolve one from penalties where reasonable steps
were not taken to make sure that the position taken is indeed correct. It is therefore
crucial that taxpayers obtain the necessary tax advice, especially in
circumstances where the facts raise some doubt.
This article first appeared on cliffedekkerhofmeyr.com.