In the case of Robert Don Hunter Dougan v HMRC [2022] TC8471, the First Tier Tribunal (“FTT”) ruled the taxpayer had not deliberately intended to cause a loss of tax despite failing to file tax returns on time. As a result of this failure, some discovery assessments had not been validly issued. The remaining discovery assessment was upheld.

Discovery Assessments – The Result of Late Tax Filings

Mr. Dougan lived and worked as a Music Producer in the UK under a valid visa. During this period, he worked in the Music Industry as a successful music producer having produced part of the soundtrack to the film The Matrix. The music production business was conducted as a sole trade which accounted for his royalty income. He then started a wine production and marketing business in partnership after purchasing a vineyard in France due to concerns regarding the viability of his music.

Mr Dougan had a history of filing late tax returns and no tax returns were filed between July 2004 and May 2013. This led to Discovery Assessments, determinations and penalties being raised by HMRC for 2004/05 through to 2006/07. Tax returns from 2004/05 to 2009/10 were filed by his accountants on 21 June 2013 and these claimed a share of Partnership Trading Losses from the wine business against sole trade income. HMRC resisted applying the loss claims to reduce the amounts charged in the discovery assessments therefore Mr Dougan appealed against the Discovery Assessments.

Burden of Proof on HMRC

The FTT held the burden of proof to be HMRC to prove all Discovery Assessments had been validly issued. Due to the dates on which the discovery assessments were issued, this depended on the taxpayer’s behavior. If Mr Dougan had acted deliberately, all the discovery assessments would have been issued in time. If he had acted carelessly, only the discovery assessment for 2006/07 would have been validly issued.

HMRC failed to prove that the taxpayer deliberately intended to cause about a loss of tax. The facts did not support that argument because it was not enough to establish that a late filing taxpayer prevented HMRC from raising assessments. Although Mr Dougan did not address his tax responsibilities, due to his focus being on his wine business, young children and litigation, it was his intention to catch up with his tax return obligations at a later date, which was something he had done in the past. However, this behavior was careless and the 2006/07 discovery assessment had been validly issued as a result. It was up to the taxpayer to show that the amounts charged by the assessment were excessive.

Having established that the Discovery Assessment for 2006/07 was validly issued, the FTT considered the quantum of Mr Dougan’s liability for that year. As Mr Dougan had claimed his share of Partnership Lindfield’s losses against his personal income in the tax years that were the subject of the Discovery Assessments, it was necessary to address the tax position of Partnership Lindfield and in particular to determine when it commenced trading, and whether the fees that it paid to SCEA Robert Dougan were tax deductible, such that it had tax losses available for Mr Dougan to set against his personal income using sideways loss relief.

Taking account of the evidence available, the FTT considered that, on the balance of probabilities, Partnership Lindfield commenced trading after 5 April 2007. The basis period for its first year of trading was 2007/08.

As the FTT had found that Partnership Lindfield had not commenced trading in the relevant tax years, the FTT concluded that the fees paid to SCEA Robert Dougan could not have been for the purposes of the trade. The FTT stated that, if it were wrong in its finding about the date of commencement of trading, the evidence supported identifying a proportion of the consultancy fees for each year that were incurred wholly and exclusively for the purposes of the trade.

Case Highlights

This decision provides a stimulating discussion of the important issue of when a taxpayer’s behavior is careless or deliberate, for the purposes of section 36 Tax Management Act 1970 (“TMA”) and the issuing discovery assessments under section 29, TMA. The decision is also prominent for its discussion of what establishes valid service of a penalty notice. Both these issues are of universal significance to many taxpayers.

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