Does HMRC Hold All the Cards in the PAYE Fiasco?

The sense of moral outrage provoked by the Pay As You Earn (PAYE) debacle probably has some way to play; this is hardly surprising, given the jumbled mix of apathy and blundering displayed by those at the top of HM Revenue & Customs. To start, its failings were dressed up as the taxpayer’s responsibility; but since the initial announcements, they have been forced to issue a flurry of back-pedalling clarifications that have probably only served to muddy the waters for the harassed taxpayer.

But, putting aside justifiable indignation, what redress does the aggrieved UK taxpayer have, once the dreaded brown envelope has hit the doormat?

Self-assessment by stealth

First, it is worth taking a step back to look at the origins of the present crisis; the source of the problem isn’t the new IT system per se, but a legacy going back more than a decade. From the inception of PAYE, up until the introduction of self-assessment in 1995, automatic annual reviews of the income tax situation of each taxpayer were undertaken. This usefully served to prevent a large build-up of underpayments or overpayments for individual taxpayers.

But after 1995, these automatic reviews were dropped—each taxpayer was considered to have the option of self-assessment to precisely define their tax obligation, if they so wished. This conveniently cut costs at the then Inland Revenue. However, the salient point about PAYE is that it is a payment on account of tax liabilities; it is not a final arbiter of the actual tax due.

PAYE is the wrong vehicle for finally calculating tax due for the current tax year—because the information required to do so is not immediately available. Add in the potential for individuals having varied income sources, from employment, self-employment or pensions, and it’s obvious, however convenient, that PAYE is only a provisional tax estimate.

The problem is that no one, not HMRC and certainly not politicians, has made this point to the taxpaying public at large. Because PAYE has always been a background calculation done by a third party (the employee or pension fund), the taxpayer has all too readily assumed it to be a proper tax calculation. This may have worked reasonably well for a world of simple employment. But multiple incomes, multiple pension providers and more rapid employment changes are increasingly the norm.

Any inaccurate or outdated information can then readily produce incorrect PAYE tax codes. This fact was conveniently swept under the carpet for the last decade, hidden by the multiplicity of systems at HMRC. Unfortunately, the recent rationalisation of IT systems has brought the issue back into the spotlight, and a government struggling with unprecedented cuts in public spending is finding it difficult to sweep £2 billion of lost income back under the carpet.

Hardest hit to be hit hardest?

So where does this leave the newly indebted taxpayer? The bad news is that the scope for redress is limited to that provided within the system by HMRC itself. Under pressure from an angry public, HMRC has waived the debt for those owing less than £300. For those with an underpayment from £300 to £2,000, the payment back will typically be handled under the PAYE system. The debt will be paid back over the next tax year, 2011/12, from the PAYE income. Cases of hardship can be assessed, on merit, by HMRC, which may allow that period to be extended to up to three years.

But for those owing more than £2,000, PAYE collection is not an option—an immediate payment may be expected. Once again a plea of hardship may allow an extension, and self-assessment-based repayment may be arranged in some circumstances. Then the taxpayer has three months to send back the self-assessment return, and three months and seven days, from the issue of the tax return, to pay the arrears.

In all cases, there is also the possibility of having one’s tax arrears written off under an existing clause, the Extra Statutory Concession, or A19. This covers situations when the underpayment of income tax is due to HMRC delaying to use timely information supplied by an individual.

A19 usually applies to underpayments for tax years ending more than 12 months previously—so it is of no use for those with tax owing only in 2009/10. But if tax is owing for 2008/09, and is due to the delayed use of properly received information, then HMRC may be expected to write off the tax for all years where that error applied. Unfortunately HMRC has already flagged this get-out clause as being a high hurdle to clear—prospects for many being able to leap it do not seem great.

These arrangements can only be seen as extremely arbitrary; those facing the largest debts have the harshest repayment terms. But they are, unfortunately, not new—they are the implementation of existing tax rules, backed by relevant legislation. As a result, the scope for legal recourse appears limited; the only option may be for further concessions to be wrung from HMRC courtesy of political pressure.

Expect the temperature of moral outrage to continue rising during the coming autumn.