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The provisions of the Tax Avoidance Disclosure Regime introduced in this year’s budget are already no stranger to controversy. While the scope of legal professional privilege (LPP) has itself been a matter of some uncertainty recently, the new regime requires lawyers to pinpoint the parameters of LPP in order to find comfort between the rock of the new disclosure regime (where failure to comply risks financial and reputational damage) and the hard place of common law, professional conduct and client care (with ensuing business risk).
The new disclosure regime
The new regime is the Treasury’s response to perceived abuse of the tax system, most particularly through mass-marketed tax schemes. The aim of the regime is to require those who devise and market certain avoidance schemes to provide the Inland Revenue with details of these schemes so as to “improve transparency” and allow the Inland Revenue to make, in its own words, “a swifter and more targeted response to deliberate abuses of the tax system”.
The prime target of the new regime might have been the range of schemes on the Big Four accountancy firms’ production line, but the net has been cast much wider, although its precise scope still remains a topic of debate following the recent publication of revised secondary legislation.
Briefly, any adviser involved in the design or implementation of transactions giving rise to certain broadly defined categories of tax advantage needs to consider whether they are a scheme ‘promoter’ for the purposes of the new regime.
Under the regime, ‘promoters’ have to make certain disclosures to the Inland Revenue within strict time limits. Failure to do so incurs liability to an initial penalty of £5,000 and £600 per day thereafter.
The information requirements
The regime stipulates, in broad and specific terms, the information that has to be disclosed by adviser and client in a two-stage process.
First, by a set date, the promoter must provide “sufficient information as might reasonably be expected to enable an officer of the board to comprehend the manner in which the [proposal/arrangements is/are] intended to operate”. This should include: a summary of the proposal/arrangements; information explaining each element of the proposal/arrangements (including the way in which they are structured) from which the tax advantage expected to be obtained under these arrangements arises; and the statutory provisions on which that tax advantage is based.
Details of the client’s identity are not required.
Having provided this information, the promoter will be provided with a scheme number, which it must pass to its client. The client must then disclose the scheme number in its tax reporting.
Application of privilege
Does this two-stage approach succeed in circumventing privilege protection? The precise ambit of LPP – particularly the extent to which LPP extends beyond confidential lawyer-client communications, the dominant purpose of which is advice on the client’s legal rights and liabilities – has been brought into question by the BCCI litigation.
However, it is hoped that the uncertainty will be resolved when the House of Lords releases the reasons for its recent decision to allow the appeal in Three Rivers District Council v Governor and Company of the Bank of England (No 10), which is expected around October or November this year.
In any event, some of the information requirements set out above go to the heart of a tax lawyer’s advice to a client as to their legal rights and liabilities. Privilege relates to the content of a communication, not the form of the communication. The fact that the promoter submits a new return for disclosure purposes and not a copy of the original advice is of no significance, providing the advice has been confidentially communicated in the course of a client-solicitor relationship.
But can privilege be asserted where disclosure is anonymised? If not, it would seem the Inland Revenue has neatly sidestepped the 2002 House of Lords decision in R (on the application of Morgan Grenfell & Co Ltd) v Special Commissioner of Income Tax (2003). In that case, the tax authority had argued that certain statutory information powers should be interpreted so that they overrode, by implication, the client’s right to rely on legal professional privilege.
The House of Lords recognised legal professional privilege as a ‘fundamental human right’ that could only be overridden in exceptional circumstances, where interference with the right is necessary in a democratic society.
The new regime does not purport to override LPP. In fact, it expressly recognises that LPP is unaffected. However, it is clear that it is the Government’s intention that LPP should not operate in such a way as to provide a legitimate justification for non-disclosure.
However, can a “fundamental human right” be avoided so deftly when the upshot of the two-stage disclosure process is so similar to the result sought, but denied in the Morgan Grenfell case? There is at least an argument that the mandatory nature of the second stage of the process means that the first stage is not truly anonymous at
all. If the anonymity argument can be dismissed in this way, there seems to be few obstacles to a privilege claim.
The client’s privilege
Of course, if LPP is available, this is the right of the client, not the lawyer. The lawyer is, however, duty bound under common law to protect and assert the client’s privilege. LPP and confidentiality are also matters of professional conduct. But perhaps of most practical importance for the lawyer assessing the extent of their disclosure obligation, is that LPP is a relationships issue in which the client-lawyer relationship is the cornerstone of the lawyer’s business. The application of LPP in the context of the new disclosure regime is much more than an academic question.
Some clients might be happy to waive any potential privilege for fear of appearing to have something to hide and attracting undue scrutiny. However, others might be less willing to forego their common law protections and in such cases the lawyer needs to examine the circumstances and nature of their involvement and advice in the project in order to determine whether they can, or must, assert LPP in relation to the information return required by the tax authority.
Inland Revenue guidance
At the moment, the lawyer can derive little assistance in this area from the Inland Revenue’s published guidance. Its initial draft guidance suggested, rather confusingly, that lawyers should rely on “normal redactive processes”, while at the same time asserting that “LPP does not, in itself, provide justification for not disclosing a scheme if it meets the criteria for disclosure”.
The recently issued revised guidance avoids this muddle by merely promising further guidance following discussion of the ambit of LPP with the Law Society.
Assuming the Inland Revenue will not accept restricted disclosure from lawyers on account of LPP, as is the impression so far, this issue appears capable of resolution only in the courts. For the tax authority to recognise the relevance of LPP would be for it to concede a significant weakness in its brave new charge against tax avoidance.
In the meantime, the resulting uncertainty can only serve to damage relationships between the tax authority, clients and advisers. This situation is all the more frustrating given that we have been here, or somewhere very like here, before in Morgan Grenfell.
The Law Society’s role in wrestling with these LPP issues is of great importance to the business of law and its practical guidance for solicitors caught in this dilemma is keenly awaited.
Peter Nias is partner-in-charge of the London office tax department at McDermott Will & Emery. He was assisted in this article by associate Nicola Purcell