Page last updated at 08:54 GMT, Friday, 5 February 2010

Will retrospective taxes affect us all?

By Professor Anne Redston
King's College, London

Douglas Port, IoM
Mr Huitson's tax affairs were arranged in Douglas, Isle of Man

The Revenue has just won a landmark court case which allowed the backdating of tax law.

New legislation normally applies to the future, not the past.

But the case of Robert Huitson may change all that.

In 2001 Mr Huitson began using an artificial scheme to reduce his taxes.

He thought the scheme was legal, and so did his advisers.

HM Revenue and Customs (HMRC) did not agree.

So far, so commonplace: HMRC frequently disagrees with taxpayers.

If these disputes cannot be settled, both parties often end up in court, where each side puts forward their argument.

Sometimes HMRC wins, sometimes the taxpayer.

Section 58

In 2008 the government changed the rules.

Unfortunately for Robert Huitson and the other scheme participants, Judge Kenneth Parker did not agree

It made the type of arrangements entered into by Mr Huitson illegal - not just for the future, but for the past as well.

Section 58 of the Finance Act in 2008 said that the change was to be "treated as always having had effect".

Robert Huitson now owed the taxman more than £100,000.

But he was not the only person who had used the scheme.

Some participants were even worse off.

Of a small sample of the 2,500 users of the scheme, 57 people said that even if they sold their home and all their assets, they would not be able to pay their tax bill.

A further 29 people said they would have to sell or remortgage their family homes; others faced bankruptcy or said they had suffered mental breakdowns.

Last month, Mr Huitson challenged this controversial tax rule in the High Court.

His barrister argued that changing the law for the past was illegal under the Human Rights Act.

Judge decides for HMRC

Unfortunately for Robert Huitson and the other scheme participants, Judge Kenneth Parker did not agree.

Anne Redston
The government may be tempted to go further, warns Anne Redston

Human rights law did not, he said, prohibit backdating in a case like this, where the arrangements were artificial and their only purpose was to minimise tax.

He ruled that the Finance Act 2008 legislation ensured a "fair balance" between Mr Huitson and others who used this artificial tax planning arrangement on the one hand, and ordinary taxpayers on the other.

And, since Parliament had previously backdated legislation to deal with an earlier loophole in the same legislation, Mr Huitson should have been aware that the same fate could befall him.

This decision means that many of the individuals involved in the scheme now face homelessness and bankruptcy.

HMRC appeared sympathetic, telling the court that "before seeking to enforce demands for tax and interest", it would take into account the scheme participants' financial hardship.

But Judge Parker actively discouraged this compassionate approach.

He said the HMRC should consider whether such treatment was fair to other taxpayers who had not avoided taxes, or to those scheme participants who had set aside money to pay any eventual liability.

He concluded that this "fairness in this broader sense" could significantly restrict the extent to which HMRC could show mercy to those facing serious money problems, even where the individuals' financial circumstances were "unfortunate and distressing".

Not the first time

There is no doubt that this was an aggressive tax avoidance scheme, but it raises important issues.

This is not the first time that tax law has been changed retrospectively

As citizens, we have a right to know the legal position before making up our minds.

Giving government the green light to change laws retrospectively erodes our rights and undermines the rule of law.

However, this is not the first time that tax law has been changed retrospectively.

In December 2004, the government announced that it would backdate legislation if it found any new avoidance schemes involving employee share plans.

This threat was carried out two years later, in the 2006 Finance Act.

Even more relevant is that the very tax laws used in Mr Huitson's avoidance scheme had themselves been amended retrospectively more than 20 years earlier in the Finance (No 2) Act 1987.

This, said Judge Parker, should have "sent out a clear signal to taxpayers and their advisers that the legislature would be very likely to take effective and decisive steps to counter [their avoidance], even with retrospective measures".

Human rights law

The judge also pointed out that retrospective legislation was not prohibited by human rights law, although there is a strong presumption against it.

In 2003, in the case of MA and 34 Others v Finland, the European Court of Human Rights stated that the key question was whether the backdating struck a fair balance between those affected by the change, both positively and negatively.

In Huitson, Judge Parker considered that the retrospection was fair, because of the effect on other taxpayers and the public purse if the avoidance had not been unequivocally blocked.

Here, the arrangements were clearly uncommercial, designed only to avoid taxes.

Furthermore, the fact that the self-same tax provisions had already been backdated once should have warned participants they were playing with fire.

But the Huitson case is nevertheless worrying.

Is it the thin end of a very dangerous wedge, allowing HMRC to get its own way without bothering to argue its case in the courts?

Or will retrospection be used only exceptionally, most commonly in response to artificial tax planning schemes?

What is certain is that backdating legislation is a cheap, quick and certain way of closing a tax loophole, and it may be irresistibly tempting for the government to use the same method again.

The opinions expressed are those of the author and are not held by the BBC unless specifically stated. The material is for general information only and does not constitute investment, tax, legal or other form of advice. You should not rely on this information to make (or refrain from making) any decisions. Links to external sites are for information only and do not constitute endorsement. Always obtain independent, professional advice for your own particular situation.

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