The thought of a tax investigation by HMRC can put established business owners on the edge. Even if you feel you’ve crossed all the boxes and done all the paperwork, you may still receive the dreaded HMRC call or letter for tax investigation.
To prepare your business for a tax investigation, you need to understand its purpose and triggering reasons. A tax investigation is an official check conducted by HMRC to inspect whether your business is paying the right amount of taxes and is compliant with tax regulations.
HMRC selects businesses randomly, so there may be absolutely nothing for you to worry about. We recommend thorough preparation so that you are prepared for all eventualities.
There are three types of HMRC tax inspection that you should know:
Full enquiry: Your business can be on the radar of a full inquiry inspection if HMRC thinks there is a massive risk of tax errors and will check every business record.
Aspect enquiry: As the name suggests, HMRC will investigate any particular aspect of your accounting and taxes.
Random check enquiry: Regardless of the state of your accounts, HMRC may conduct a random check tax investigation at any time.
Reasons your business is facing a tax investigation
Now that you know the concepts of a tax investigation as a business owner, you need to know the reasons or the triggers that might cause the HMRC to pick you out for one.
You will receive a letter from HMRC, which will provide an indication of what the investigation will focus on. At this point, we recommend approaching your accountant for further discussion.
The main points which could trigger an investigation are:
Discrepancies in your tax return
Any inconsistencies between your reported income and expenses, unusually high deductions, or missing information can compel HMRC to conduct a tax investigation.
Significant variations in income or expenses
A sudden spike in your income or a drastic rise in the deductions from one year to the next can concern the tax authorities.
Inconsistent accounting records
If your books are not up to date and you lack documentation for your expenses, this can trigger an HMRC inspection.
Not filing your tax returns on time
Failing to file tax returns on time or not filing at all is one of the most definitive causes of getting chosen by tax authorities for an investigation.
You have been randomly selected
It may be as simple as it isn’t your lucky day. If you are detailed with your accounting, you will have nothing to worry about.
How to prepare for a tax investigation
You need to know how to prepare for a tax investigation in order to have a stress-free tax investigation for your business. Below is a checklist for preparing for a tax investigation that will streamline the preparation process.
1. Understand the purpose of the investigation
As identified above, understanding the scope of the tax investigation is the first step in preparing your business for the inspection. A deep dive into the purpose of the inspection will help you pinpoint the areas that need to be addressed, and here’s how you can confidently navigate the process.
Why is your business being investigated?
Review your past tax returns and spot areas that might trigger a tax inspection. Gather all relevant documents to support your claims.
What is anticipated in the tax investigation?
Once you get clarity on what is being looked at in the tax investigation, you should collect all the information that HMRC needs to conduct, such as invoices, payroll records, and receipts.
What are the standards that need to be fulfilled for the investigation?
Familiarise yourself with the specific tax regulations for your business and ensure compliance.
How long does the tax investigation span?
If you are subject to a tax investigation, HMRC can go back anywhere from 4 to 20 years, depending on the circumstances of your case.
What are the criteria that need to be met for the tax investigation?
Cooperating with HMRC, responding to requests, and providing accurate information and documents are the essential criteria for a tax investigation.
2. Organise your financial records
Before a tax investigation, you should organise all your financial records for a hassle-free investigation process. Create a document checklist of documents you need to gather which could include:
- Financial statements like balance sheets and income statements.
- General ledger with all journal entries.
- Financial agreements and loan documents.
- Financial forecasts and annual budgets.
- All shareholder equity records.
- Streamlined audit trail for all company transactions, supporting documentation, and bank statements.
Organising these documents will make the inspection process more efficient, ensuring easy access to all information.
3. Prepare your stakeholders
If your company is facing a tax investigation for the first time, you must take the initiative to prepare your team and stakeholders for it. An HMRC tax inspection can be worrying for everyone concerned, and it is recommended you cover all of the critical points with them and spend time communicating and reassuring them so that they have a clear understanding:
- Why is your business having a tax investigation?
- What does a successful tax investigation mean?
- What kind of preparation can they make in advance?
- What are the documents needed for the tax investigation?
- Why are they involved in the tax investigation process?
Sit with your team and familiarise them with the investigation standards. This will help you find any non-compliance and other mistakes in tax regulations if they exist.
4. Be prepared for the tax inspector’s questions
Maintaining transparency and effective communication with the tax inspector is critical during the tax investigation process. By ensuring that every employee and stakeholder of your business is aware of the financial transactions, statements, and internal controls, you can create a sense of reassurance, making the inspection process less stressful.
5. Review your internal business processes
Internal controls are the processes to safeguard your business assets, prevent fraud, and secure financial reporting. You need to deep dive into your internal control systems, such as who handles payments and approves transactions.
Check the management systems and identify the process gaps that might be a loophole for security risks. Make every company member aware of any process control gaps to rectify them before the investigation starts.
6. Conduct an internal investigation
Knowing how to prepare for a tax investigation is always a good idea before the official tax investigation happens. Perform an internal investigation to review financial transactions, verify the accuracy of each record, and perform reconciliations.
Find any discrepancies and loopholes that could threaten your business assets. Tighten the privacy and security protocol to safeguard your vital financial records and other assets if necessary. A transparent, continuous improvement process should be the keystone of your business processes to avoid the risk of tax investigations.
Wrapping up
With the heightened focus from HMRC, increased scrutiny of financial documents has resulted in more investigations. It’s stressful to be a target of a tax investigation.
Additionally, we provide coverage for tax investigations through our tax investigation insurance, also referred to as fee protection insurance. This policy helps cover accountants’ fees incurred during tax investigations, saving clients money.
That being said, if HMRC has discovered any irregularities in your tax returns, current assets, or any other errors, 3E’S tax advisor will be on hand to work it through with you.
Seeking assistance from professional tax advisors like 3E’S ensures compliance with tax regulations and avoids legal issues or potential penalties. Book a free consultation to learn more about our tax investigation services.
