Tax gap steady but loss to errors and carelessness rising
‘Tax Gap’ figures published today show the gap remaining steady as a share of the tax that should be collected. The gap was up by £5 billion in absolute terms in 2021-22 but this is in line with an increase in the theoretical tax liability during a year when the tax take recovered from a sharp dip during the coronavirus pandemic.
The tax gap is the difference between the amount of tax that should, in theory, be paid to HMRC, and what is actually paid. Today’s HMRC report1 looks at the estimated tax gap in 2021-22, but also revises some figures for earlier years. The report puts the tax gap at an estimated £35.8 billion, which is 4.8 per cent of tax liabilities. It was also 4.8 per cent in 2020-21, though it had been on a mostly downward trend over the previous seven years, from 7.2 per cent in 2013-14.
Today’s figures mean we now have three years of data since compulsory digital record keeping and quarterly digital reporting for VAT were introduced by HMRC as the first stage of the Making Tax Digital (MTD) project. HMRC stated that this would ‘reduce the amount of tax lost to avoidable errors’.2 However the amount of tax lost to both error and ‘failure to take reasonable care’ has increased significantly in the latest figures, though the overall ‘VAT gap’ has fallen since MTD began.3
John Barnett, Chair of CIOT’s Technical Policy and Oversight Committee, said:
“On the face of it the pandemic has not had a significant effect on the tax gap, and nor has the introduction of Making Tax Digital.
“The figures suggest HMRC are still collecting about 95 per cent of tax due, which compares well internationally.”
CIOT has also commented on some of the individual components of the tax gap.
Taxpayer mistakes / Making Tax Digital
The report puts tax lost due to taxpayers’ failure to take reasonable care in 2021-22 at £10.7 billion (1.4% of total theoretical liability) and tax lost due to taxpayer error at £5.4 billion (0.7%). The figures were £8.2 billion (1.3%) and £4.2 billion (0.7%) respectively in 2020-21.
John Barnett commented: “The findings in this report illustrate the complexity of the tax system. More than £16 billion of the tax gap relates to taxpayers not getting things right through what HMRC categorise as error or a failure to take reasonable care, and both figures are rising.
“We now have figures for the first three years of Making Tax Digital. It is hard to judge what impact, if any, it has had on taxpayer errors. Figures for both errors and carelessness are rising, and significantly higher than they were before MTD was introduced, but the ‘VAT gap’ has continued a long-term trend downwards.
"HMRC have revised figures for both errors and carelessness in 2019-20 and 2020-21 significantly upwards, but have not published revised figures by taxpayer behaviour for earlier years so it is hard to know whether there was a jump in these numbers when MTD came in or HMRC thinks it has been consistently underestimating them historically.
“The increases in these parts of the tax gap may be a consequence of a shift in HMRC’s approach to penalties. For example in relation to compliance around research and development tax credits we are seeing HMRC officers making quite strong assertions about what amounts to failure to take reasonable care, so it may be that more cases are being categorised as such. But without robust evidence it is hard to be sure.
“It may be that the difficulties taxpayers are having getting answers to queries from HMRC is having an impact on errors too. It emphasises the importance of improving service levels on helplines and dealing with correspondence, as well as providing and publicising accessible, clear guidance.
“In any case it is vital that HMRC look into what has caused the increase in carelessness and error figures and what they can do to help taxpayers take reasonable care with their tax affairs and get them right.”
“The theory behind digitalisation of the tax system is sound. But HMRC must thoroughly assess the effectiveness of MTD, as well as whether the administrative burden it is imposing on business is reasonable, before they expand it further.
“Ministers must also focus on the need for simplification. A simple tax system, with clear rules and easy to navigate guidance will lead to fewer mistakes by both taxpayers and tax authorities.”
Criminal activity
The report puts tax lost due to evasion in 2021-22 at £4.7 billion (0.6% of total theoretical liability), tax lost due to criminal attacks on the tax system at £4.1 billion (0.6%) and tax lost due to the hidden economy at £2.1 billion (0.3%). The figures were £3.7 billion (0.6%), £4.6 billion (0.7%) and £2.0 billion (0.3%) respectively in 2020-21.
John Barnett commented: “The picture on illegal activity appears somewhat mixed. It looks like HMRC have had some success addressing criminal attacks, which are down by an estimated half a billion year on year and by more than a billion since 2019-20. But the tax gap attributable to the hidden economy is broadly unchanged and tax lost to evasion is sharply up.
“This suggests that while the Government’s efforts in the early 2010s to put extra resources into identifying and tackling tax evasion and other illegal activity were successful they now need to think more imaginatively and make effective use of the latest techniques for spotting and tackling criminal activity, including continuing to invest in data analytics.”
Non payment
The report puts tax lost due to ‘non-payment’ (largely taxes written off as a result of insolvency) in 2021-22 at £3.3 billion (0.4% of total theoretical liability). This is down on 2020-21 (£3.6 billion; 0.6%) and further down on 2019-20 (£3.9 billion; 0.6%).
John Barnett commented: “This fall in non-payment over and since the pandemic is remarkable.
“Non-payment usually mostly reflects the state of the economy, rather than anything HMRC and other parts of government can control. However economic support measures including not just furlough, the self-employed scheme and bounceback loans, but also temporary tax cuts and taxpayers being given more time to pay, have clearly had a real impact in helping many business survive the pandemic.
“Nevertheless the long-term situation is less clear, with an increase in company insolvencies since the start of 2022 which may be reflected when the 2022-23 tax gap figures are published next year.”
Avoidance
The report puts tax lost due to avoidance in 2021-22 at £1.4 billion (0.2% of total theoretical liability). The 2020-21 figures were £1.3 billion and 0.2% respectively. The first tax gap figures (2005-6) put the ‘avoidance gap’ at £4.8 billion (1.1%).
John Barnett commented: “Tackling avoidance remains the big success story of efforts to tackle the tax gap. The avoidance gap is less than a third of what it was 15 years ago, less than a fifth as a share of the total tax that should be collected.
“It is noteworthy that nearly four times as much is lost to errors as to avoidance.”
Notes
1. Measuring Tax Gaps 2023, HMRC, published 22 June 2023.
2. Making Tax Digital (MTD) for VAT was introduced in April 2019 for businesses with turnover above the VAT threshold. Since 1 April 2019, VAT registered businesses with turnover over the VAT threshold of £85,000 have been required to maintain digital accounting records and to file their VAT returns directly from MTD-compliant software.
The statement that MTD ‘will help reduce the amount of tax lost to avoidable errors’ can be found here can be found in the government’s Overview of Making Tax Digital.
3. In 2018-19 the ‘VAT gap’ was £9.0 billion (6.4%). It rose to £11.3 billion (7.7%) in 2019-20 before falling to £6.3 billion (5.0%) in 2020-21 and £7.6 billion (5.4%) in 2021-22. VAT gap figures can be found here.