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Directors can now be made personally liable for unpaid taxes – Happy Christmas folks!

Ruth Duncan, Maxwell Davies Director

So, what happened to the limited liability of using a company? The banks do not lend without a personal guarantee and as of 1 December, HMRC have been given powers to make directors personally liable for unpaid taxes. 

The airwaves have been very quiet on this aspect of the Finance Act 2020 that came into force on 1 December 2020. In insolvency situations not only did HMRC regain its preferential status, with the additional reach of not being time-limited, but it has also introduced new rules making directors, shadow directors and certain other individuals jointly and severally liable for a company’s tax liabilities in insolvency situations.

Now to be fair to HMRC the new rules are intended to deal with abusive, aggressive tax avoidance and tax evasion arrangements, but they have been intentionally broadly drafted so as to act as a deterrent. As a result, the regime has a potentially much wider application than they first appear and the potential to create serious personal financial burdens. 

Rules application

How the rules apply in an insolvency setting is to seek to tackle tax avoidance and evasion arrangements using the insolvency laws to circumvent a tax liability. The rules arose in part to address the government’s dissatisfaction with the adequacy of its powers to deal with “phoenixism”  – the practice of carrying on the same business through a series of companies where each company becomes insolvent but transfers its business (less its liabilities, including taxes due) to a successor company.  The abusive nature of such an arrangement is especially evident where value has been extracted from the company through a tax avoidance scheme.  

The Act received Royal Assent on 22 July 2020, and in certain circumstances involving insolvency or potential insolvency, any director or shadow director of, or any other individual otherwise connected to, a company can be made jointly and severally liable for amounts that are payable to HMRC by the company. The regime is also extended to members and shadow members of limited liability partnerships.

Joint Liability Notice

HMRC has to issue joint liability notice (JLN) to trigger the rules. Subject to numerous conditions, HMRC can issue a JLN in three broad cases:

  • Tax avoidance and tax evasion
  • Repeated insolvency and non-payment cases
  • Cases involving penalty for facilitating avoidance or evasion

As this blog is dealing with the insolvency angle, we will only deal with the main points that apply for a JLN in those circumstances:-

  • During the 5 years prior to the issue of the JLN, the individual had a “relevant connection” (director, shadow director of, or was a participator in) with at least two “old” companies that have become subject to an insolvency procedure or had an outstanding tax liability at that time;  
  • Another company carries on trade similar to that of at least two old companies;
  • During the 5 years prior to the issue of the JLN, the individual had a “relevant connection” (director, shadow director of, or was a participator in) or was involved in (whether directly or indirectly) in the management of the new company;
  • At least one of the old companies still has a tax liability outstanding in an amount exceeding £10,000 and representing more than 50% of the total amount due to its unsecured creditors.

An individual receiving a JLN relating to phoenixism will be jointly and severally liable (with the new company) for any amounts due to HMRC from the new company when the JLN is issued, or which arise during a period of 5 years from the issue of the JLN, and will be jointly and severally liable (with any relevant old company) for any amounts still due to HMRC from that old company.

It should also be noted that these rules also apply to cases that fall under the heading of the facilitation of tax avoidance or tax evasion where the company has entered into an insolvency procedure or there is a serious risk of it doing so.

Individuals and companies, can appeal against a JLN – either to HMRC to review its decision to issue a JLN or to appeal to the courts.

The common theme in each of the three cases is that HMRC must establish the liability has arisen through tax avoidance, evasion or phoenixism. To help “target” the rules the new regime references existing anti-avoidance rules (General Anti-Abuse Rule (GAAR) and Disclosure of Tax Avoidance Schemes (DOTAS)) in defining its scope.   

Given the broad nature of the rules, the multiple regimes referenced, that potential insolvencies and the inclusion of participators, the net result is a regime that circumvents the “limited liability” status of companies and creates latent secondary tax liabilities for what could be a very large group of individuals – directors, shadow directors, investors, shareholders – irrespective of involvement or actual knowledge of the actions of the company across a lengthy 5 year period.

What protection is offered?

Despite the right to review and appeal there seems to be little to protect to protect genuine restructurings and insolvency situations that arise solely as a result of a commercial downturn for being caught and challenged by HMRC.  

How will HMRC deal with all the tax debt that businesses have been allowed to have a payment holiday from, especially if the current business has previously been subject to the “phoenix” rules?   With businesses still struggling in the current Covid-19 pandemic, the rules and their application will demand scrutiny.

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