Guardian: Taxman Dave Hartnett has just 600 staff handling 700 groups of companies

The top gamekeeper Taxman Dave Hartnett has just 600 staff handling 700 groups of companies Tax gap reporting team

The Guardian, Friday 6 February 2009

It sounded more like an FBI raid than a policy initiative by British civil servants. When Dave Hartnett last year declared that he had "told the chairman of a public company ... we are putting 150 tax inspectors in", he was trying to impress on sceptical MPs just how tough the taxman could be.

The combative figure of 57-year-old Hartnett, permanent secretary for tax at Her Majesty's Revenue & Customs, represents the public face of tax gathering.

He lists his recreations in Who's Who as food, wine, and the Roman orator Marcus Tullius Cicero. Based at the grand Treasury buildings in Parliament Square, he is the man who, metaphorically at least, bangs the boardroom table on the ordinary citizen's behalf.

Those "150 inspectors" were rather an exaggeration. HMRC then toned it down to "150 staff were deployed in some way to accelerate and conclude the ... tax inquiries". But Hartnett's story did highlight the scale of his difficulties.

Asked if Britain's tax collectors are outgunned by massed ranks of corporate accountants on the other side, he denies it: "I really don't recognise the question of whether we have enough resources as being crucial ... Every organisation would like to have more resources."

But critics claim that HMRC is hiding the scale of the tax gap, as it finds itself dragged into ever cosier relations with big business. Gordon Brown as chancellor boasted to the CBI of applying "not just a light touch, but a limited touch" to financial regulation. He added: "The new model of regulation can be applied ... to the administration of tax." So just 600 staff in the Revenue's large business service handle 700 groups of companies. By contrast, a single sale and leaseback project by Tesco took 90 lawyers to organise. An HMRC source says: "There are less than 100 inspectors actually tackling avoidance, against thousands of professionals advising companies on how to do it."

As experienced inspectors retire, the consequences of a recruitment gap in the 1990s are said to be hindering their replacement. An Oxford Business School's Centre for Business Taxation survey highlighted concerns about "a particular dearth of people who have the technical expertise to deal with the challenges presented by large business". MPs on the public accounts committee found "a widening gap [compared with] the skill set of large business tax staff".

An internal HMRC paper in 2005 said inspectors thought they were "not resourced for a challenge on the lesser [avoidance] schemes".

Many believe that hiring more inspectors is sensible, because last year the large business service recovered 92 times its costs. A "special investigations section" fighting the most complex avoidance cases had yielded 450 times its costs.

Terry Cook, president of the senior Revenue officials' union, ARC, recently called for "increased resources to counter tax evasion and avoidance". But the reverse is happening. HMRC is in the process of making 25,000 job cuts.

Companies complain that tax inspectors are aggressive or sub-standard. But some inspectors, in turn, protest at a cultural unwillingness by Labour politicians to confront big business.

Plans drafted in 1997 for a "general anti-avoidance rule" (GAAR) to strike out any transaction motivated by tax avoidance were largely shelved. In 2001, business lobbying of Gordon Brown led to the "Hartnett review", which redefined the relationship as one of "mutual trust". Hartnett claimed there were only a small number of companies "for whom aggressive tax planning is the norm and who do not want to enter into an open relationship with the Revenue".

His review promised "a new, faster process, focusing only on the most important issues" and "a collaborative approach". The policy section was redesignated a "champion for business". Friendlier links were cemented through a new large corporates forum and a business tax forum.

But things went wrong. Tax staff were criticised for settling disputes with Cable & Wireless for £380m when the company had already set aside £1.5bn to cover liabilities. The impression of a lack of grip was exacerbated by the sale of the Revenue's own offices to a Bermuda- registered company, Mapeley. Parliament's public accounts committee said: "It was a very serious blow indeed ... to have entered into a contract with tax avoiders."

A currency swaps avoidance ruse, purchased eagerly by multinationals in the early 2000s, had a potential cost to the Treasury of £1bn. Another £200m was being lost on schemes manufacturing individual tax losses for rich people. And retailers flocked to escape VAT by tax- free "card-handling" fees.

"We saw one dividend-stripping scheme that could have wiped out the whole corporate tax base in the UK for the financial sector," Hartnett says.

As corporation tax receipts dived during 2004, inspectors responsible for Britain's 102 largest companies classified 16 of them as "serial avoiders" and another 40 as "opportunistic avoiders". A clampdown was attempted. Disclosure in advance was ordered of all avoidance schemes. To HMRC's shock, there have turned out to have been no fewer than

13,797 sales of such schemes in the last four years, many of them fiendishly complex. Each accountancy firm or bank that dreamed up an idea was peddling it to an average of 13 big companies.

Some schemes were promptly outlawed. A burgeoning trade in exploiting the anomalies of cross-border "tax arbitrage" was also curtailed.

The CBI's chief economic adviser, Ian McCafferty, soon complained: "These measures are effectively a covert means of extending the tax base to raise revenue ... and have impacted on the UK's attractiveness as a place to do business."

Brown commissioned the then HMRC chairman, David Varney, to "address the concerns about the nature of that relationship and tone of engagement".

Varney, former chief executive of telecoms firm O2, which itself had executed a major VAT avoidance scheme, assembled a consultative committee.

Among the finance directors on it were: Ken Hanna of Cadbury Schweppes, which was locked in a battle at the European court over its use of a Dublin subsidiary; Richard Lapthorne of Cable & Wireless; and AstraZeneca's Jon Symonds, embroiled in a multibillion pound "transfer pricing" dispute. The Varney review in 2006 promised improved Revenue standards, along with "greater mutual respect and trust". Time consumed on overseas investigations would be halved from 37 to 18 months. Hartnett promised to intervene personally. Those close to him say he was impressed by colleagues in the US, where top management was prepared to roll up its sleeves and take over interminable inquiries. This was unpopular with some inspectors. They say they faced the threat of losing control, thus strengthening the company's negotiating hand.

In another reform, 60 inspectors were rebadged as "customer relationship managers", able to grant "low risk" status to well- behaved firms. These would then face a tax inquiry only once every three years. For the "high risk" recalcitrants, Hartnett not only threw in extra staff but also set out to influence the "boardroom agenda", confronting their chairmen over meals.

He says all is going to plan "we have seen changed behaviours" with

238 companies having become "low risk". One source said: "People may say we're going soft on business, but we're getting in zillions in tax." Hartnett likes to quote from one [unnamed] company's promise to have "regard to the intention of the legislature as well as the strict letter of the law". HMRC claims avoidance schemes are now almost dead, although in the past two years at least 380 fresh ones have been executed by 5,571 separate companies and individuals.

For Hartnett, the new challenge is "re-structuring", by which firms hive off key elements of their trade to tax havens in Switzerland.

Some tax professionals agree that Hartnett's strategy of embarrassment is having its successes. "I would say the dinners have been really effective. People at the top have huge power and they don't want to be made uncomfortable across a dinner table," one tax expert said.

Others remain more sceptical. "The strategy ... may have had partial success in getting some company directors to think about the possible reputational effects of their tax activities; in other cases, this strategy may be counter-productive because directors feel strongly that they should have the right to engage in legal activities that minimise tax," says Prof Judith Freedman.

She and co-authors of the Oxford study conclude that many companies are prepared to be cooperatice to improve their risk rating. But they add: "The sticking point for some comes with altering their behaviour."

Insiders point out that executives generally pocket bonuses based on earnings per share. This means that every tax pound saved immediately feeds through into directors' own pay packets.

One senior inspector says of Hartnett's approach: "It's a great idea that is malfunctioning. To concentrate scarce resources on high-risk cases was very sensible. But what's happening is that litigation is seen as a failure of 'engagement' and there's a danger that high risk corporates end up with better deals than other companies."

A Revenue source said: "When the legal advice is that we have a less than 50-50 chance, senior management drop the case, no matter how egregious the avoidance." Most avoidance is therefore never being exposed to judicial scrutiny, still less the glare of publicity. It has become a one-way bet for multinationals, with no real penalty if they go too far.

Revolving door

Big business can use the lure of higher wages to poach Revenue staff. A middle-ranking tax inspector earning £60,000 could easily find his salary rising by £40,000 this way, says one former inspector.

Eight staff in the division responsible for collecting tax from Britain's biggest companies were recruited in 2007 by the big four accountancy firms.

Revenue officials have to apply for permission if they want to take up a sensitive job. Sometimes restrictions are placed on ex-employees. Sir Nicholas Montagu, chairman of the Inland Revenue for seven years, joined accountancy firm PwC as an adviser in 2004. He was told that he could not give advice on any tax-related matters for two years. Revenue staff were reported to have felt betrayed when a senior colleague, John Connors, joined Vodafone's tax department as deputy head last year. The mobile phone giant had been locked in a long- running legal tax dispute, while Connors was head of the unit liaising with multinationals on policy issues. Connors told the Guardian he did not deal specifically with Vodafone on tax matters during his 20 years at the Revenue.

In the last three years, HMRC has approved 390 applications from staff to join a company, accountancy firm or outside body.

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