HC 1531 Public Accounts CommitteeFurther written evidence from Osita Mba

RE: PUBLIC INTEREST DISCLOSURE ACT 1998HM REVENUE & CUSTOMS’ PROCEDURES FOR SETTLING TAX DISPUTES

1. I respectfully present my compliments to you and humbly request that consideration be given to this additional public interest disclosure. It has become necessary in light of significant inaccurate and misleading evidence given to your Committee in the course of the hearings on 12 October, 17 October and 7 November 2011.

Summary

2. It is a fundamental constitutional principle that liability to taxation is a matter for Parliament. On the other hand, the powers of the Commissioners for Her Majesty’s Revenue and Customs (HMRC) are limited to the collection of revenue (taxes, duties and national insurance contributions (NIC)). Therefore while Parliament has conferred the Commissioners with a managerial discretion as to the best and most practicable means of maximising revenue for the Exchequer, Parliamentary sovereignty over the imposition of liability to taxation places certain important limitations on this discretion. Some of these limitations are highly relevant to the recent evidence provided to your Committee and to the National Audit Office (NAO)’s proposed re-examination of the Goldman Sachs and Vodafone settlements.

3. First, the rate of interest that applies to late payments of tax and NIC is equally fixed by Parliament. Therefore while the Commissioners are entitled to take accrued interest into account in foregoing revenue in the exercise of their managerial discretion they cannot vary the quantum of accrued interest, which is determined by simply applying the appropriate statutory rate to the outstanding principal. However, the Comptroller and Auditor General of the NAO (C&AG) informed your Committee on 12 October 2011 that the accrued interest in relation to the Goldman Sachs case was a range of figures—“between £5 million and £8 million” (Q121) before settling for “£5 million” (Q125). Similarly, Mr Hartnett claimed that “the sum is smaller than [£10 million]” (Q24).

4. However, as I explained in my memorandum, the quantum of accrued interest should be £20 million in rough figures (excluding penalty). Paragraphs 7 to 39 below demonstrate that the £20 million estimate is supported by a published Tribunal judgment (see Goldman Sachs International and Goldman Sachs Limited v The Commissioners for Revenue and Customs [2009] UKUT 290). That judgment also contradicts the following evidence given to your Committee by Mr Hartnett (Q21): “I had overseen the 2005 settlement of the issues, and I knew of the legal impediment to collecting interest. My colleagues were in a similar position of knowing, and so was someone from the taxpayer. We were all confident that we knew that. The dispute that was in the hands of the lawyers was over the principal sum; it was not a dispute about interest.” As explained below, there was no legal impediment to collecting interest either in 2005 or at any other time before the eventual settlement, and both HMRC and Goldman Sachs acknowledged publicly throughout the litigation that the dispute was over both the principal sum and the interest.

5. Secondly, Parliament has also enacted strict requirements for the settlement of appeals before the Tribunal, notably section 54 of the Taxes Management Act 1970 for direct taxes and regulation 11 of the Social Security Contributions (Decisions and Appeals) Regulations 1999 for NIC. The effect of the regulation 11 on the Goldman Sachs settlement was that although Mr Hartnett was authorised to “shake hands” on the proposed settlement on 19 November 2010, this informal agreement did not become binding on HMRC until it was set out in an exchange of letters initiated by HMRC on 22 February 2011 by the litigation lawyer on the orders of Mr Inglese. Paragraphs 40 to 58 below highlight the intervening events between these two dates, in particular the meeting of the High Risk Corporates Programme Board on 30 November 2010 and the meeting of the lawyers on 8 December 2010, against this legal background.

6. Thirdly, the duty imposed on the Commissioners by Parliament is to collect tax as it falls due in respect of actual transactions. Thus it was held in Al Fayed and Others v Advocate General for Scotland (representing the Inland Revenue Commissioners) [2004] STC 1703, that the Commissioner’s managerial discretion does not extend to entering into an agreement with a taxpayer as to his future tax liability. Paragraphs 59 to 68 below explain that if (as indicated by the MP for North East Cambridgeshire at your Committee’s hearing on 7 November 2011 (Q358)) the Vodafone settlement in 2010 includes the company’s liability for 2011 and 2012, it may be ultra vires and not binding on HMRC to that extent.

A. Quantum of Loss to the Exchequer on the Goldman Sachs Settlement

7. As I explained in paragraphs 2.14 and 2.35 of my memorandum, HMRC (then Inland Revenue) issued notices of liability to NIC against Goldman Sachs International (GSI) on 12 December 2002. The liability comprised: (a) unpaid NIC in the sum of £23.2 million (£7,295,056.85 for 1997–98, £6,472,974.83 for 1998–99, and £9,462,520.69 for 1999–2000) and (b) accrued interest on the aforementioned liabilities to 12 December 2002.

8. The liability related to bonuses paid to staff supplied to GSI by another Goldman subsidiary—Goldman Sachs Services Limited (GSSL)—which has its principal office address in the British Virgin Islands. On 13 December 2002, GSI appealed those decisions to the First-Tier Tribunal. The appeal was activated by GSI and GSSL (which had hitherto not been involved in the proceedings) in November 2008 by their request for a listing. On 9 December 2008, GSI and GSSL made a joint application in the restored appeal for a direction concerning a preliminary hearing on which of the two companies would be liable to the NIC liability.

9. GSSL was the formal employer of staff who worked for GSI, although GSI funded GSSL’s payments to those employees. But in June 1999 certain GSSL employees became direct employees of GSI. If GSSL was not “present” in the UK within the provisions of the relevant legislation (as argued by HMRC) then the company liable to pay the contributions was GSI as the host employer. On the other hand, if GSSL was present in the UK (as contended by Goldman Sachs) then it was liable to pay the contributions. However, in relation to the employees directly employed by GSI from June 1999, there was no dispute that GSI was liable to pay any contribution.

10. The First-Tier Tribunal rejected the joint application by GSI and GSSL for a direction concerning a preliminary hearing and the companies appealed to the Upper Tribunal. This appeal was heard on 21 October 2009 by Mr Justice Norris who allowed the appeal and directed the preliminary hearing. His judgement, which was published on 23 December 2009 (see Goldman Sachs International and Goldman Sachs Limited v The Commissioners for Revenue and Customs [2009] UKUT 290), contains a useful public record of the quantum of accrued interest at significant periods between 2002 and 2011.

10 December 2003—£7.61 million

11. The Limitation Act 1980 prevents any action to enforce recovery of amounts due after six years from the date on which the liability arose. Although the Act specifically excludes Crown proceedings to recover “any tax or duty or interest on any tax or duty” HMRC accepts that NIC is not a tax or duty. Therefore, the Act places a time-bar on actions for recovery by HMRC of NIC due after 6 years from the date on which the liability arose. In order to prevent this effect of the Act on Goldman’s liability in this case, HMRC issued a claim in the County Court against GSI while the appeal before the Tribunal was outstanding.

12. In fact, GSI and GSSL raised the preliminary issue referred to in paragraph 9 above in 2008 (more than six years from the date on which the liability arose) on the basis that since HMRC instituted the County Court proceedings against GSI but not GSSL HMRC would be time-barred from recovering the NIC liability should the Tribunal find that GSSL was the company liable.

13. You will recall that the note of the lawyers’ meeting on 8 December 2010 referred to this County Court claim in this passage: “GS had apparently suggested the principal might be £16 million. Discussing whether this altered things. DR pointed out that the claim form and probably the Particulars of Claim in the County Court were public documents and could be copied by anyone interested in comparing the settlement sum with the claim.

14. However, the details of the claim had already been disclosed in the judgment of Mr Justice Norris referred to above (Goldman Sachs International and Goldman Sachs Limited v The Commissioners for Revenue and Customs [2009] UKUT 290). In paragraph 14 of that judgment, he stated: “On 10 December 2003, HMRC commenced proceedings in the Central London County Court seeking repayment of some £30.81 million of unpaid NIC and interest.” In other words, as at 10 December 2003, the accrued interest on the unpaid NIC principal of £23.2 million was £7.61 million.

31 October 2005—£10.8 million

15. By the time of the 2005 settlements, the accrued interest had increased to £10.8 million. Thus on 7 October 2005, the relevant HMRC Officer in the then Special Civil Investigations (SCI) now Special Investigations (SI), wrote to the Managing Director of Goldman Sachs International (Mr Housden, who would have been involved in the settlement reached by Mr Hartnett on 19 November 2010) stating, amongst other things, as follows:

This is in preparation for resolving your appeals by litigation. HM Revenue & Customs is, however, prepared to settle the open appeals by either litigation or by a negotiated settlement. The terms of a negotiated settlement that we would find acceptable are:

Payment of 100% of the Employer’s NIC outstanding, and

Non-payment of the late payment interest accruing on the NIC.

I understand from our discussion on 19 September that this is unlikely to be of interest to you, however, as this is an offer that is being made to all participants it seemed right to make the offer to yourself as well.

The offer of a negotiated settlement is open until 5pm on Friday 9 December 2005. ...

For the avoidance of doubt, please note that should litigation be necessary to resolve matters then interest will continue to accrue on the principal NIC debt. ...

I enclose, as an appendix, a table detailing the position in respect of the Employer’s NIC payable ..., per our records, and the interest due up until 31 October 2005.

Appendix to letter dated 7 October 2005

Year

NIC Due

Interest to 31/10/2005

1997–98

£7,295,056.85

£4,079,252.24

1998–99

£6,472,974.83

£3,032,305.69

1999–00

£9,462,520.69

£3,704,214.86

Total

£23,230,552.37

£10,815,772.79

16. In the event, Goldman Sachs rejected the offer and interest continued to accrue on the NIC liability as advised in the letter and line with settled law and HMRC’s practice.

17. It should be noted that there was no suggestion in the letter that interest would start to accrue from the date the offer was rejected, which would have been a deviation from settled law and practice. However, this appears be what the C&AG and Mr Hartnett implied when they informed your Committee on 12 October 2011 that the interest is “between £5 million and £8 million” (Q121) or “smaller than [£10 million]” (Q24).

18. The quantum of accrued interest from 31 October 2005 to the date of the settlement (22 February 2011) may be slightly “smaller than £10 million” but this amount does not include the £10.8 million accrued as at 31 October 2005. Having rejected the 2005 settlement offer which the other 21 companies that used the avoidance scheme accepted, Goldman was not entitled to a release from the payment of the £10.2 million accrued at the date of the 2005 offer.

19. You will recall that during your Committee’s hearing on 17 October 2011, Mr Hartnett gave this very significant evidence when questioned by the MP for South Norfolk:

Q250 Mr Bacon: Since it is very common to charge interest—it is standard practice to charge interest—wouldn’t consulting lawyers on that question have been the obvious thing to do?

Dave Hartnett: There are two things to say with that, Mr Bacon, one of which I touched on last week. I had overseen the 2005 settlement of the issues, and I knew of the legal impediment to collecting interest. My colleagues were in a similar position of knowing, and so was someone from the taxpayer. We were all confident that we knew that. The dispute that was in the hands of the lawyers was over the principal sum; it was not a dispute about interest.

Q251 Mr Bacon: Hang on a minute. The legal impediment that you thought you were confident about was a supposed impediment to the charging of interest.

Dave Hartnett: Yes.

Q252 Mr Bacon: But the 2005 settlement that you were talking about was several years previously.

Dave Hartnett: Yes.

Q253 Mr Bacon: Would it not have been standard practice to revisit why it was that you were so confident about the nature of that impediment?

Dave Hartnett: Well, because I had not been running the case, but those with me had, and between us—and I am very sorry about this—we all believed the impediment still to be there.

Q254 Mr Bacon: But you actually wrote to Goldman Sachs-

Dave Hartnett: I don’t think-

Q255 Mr Bacon: Sorry, not you. HMRC wrote to Goldman Sachs and told it that the interest would run—that the interest would continue to roll up and be due if it did not settle with the other 21 companies.

Dave Hartnett: I’m sorry, Mr Bacon, I was unaware of that letter until you mentioned it to me.

Q256 Mr Bacon: I bet you found out afterwards.

Dave Hartnett: I might have.

20. There is no evidence to support Mr Hartnett’s claim that there was a legal impediment to collecting interest in 2005, and which he and the head banking sector and the case relationship manager (who were not part of the legal team “running the case”) and someone from Goldman Sachs believed to exist in 2010. In fact, the 2005 letter contradicts this assertion.

21. Furthermore, the claim that “the dispute that was in the hands of the lawyers was over the principal sum” and “not a dispute about interest” is inconsistent with the judgment of Mr Justice Norris which, amongst other things, stated (see paragraph 7 above) that: “On 10 December 2003, HMRC commenced proceedings in the Central London County Court seeking repayment of some £30.81 million of unpaid NIC and interest.”

22. Indeed, subsequent passages of the judgment show that neither HMRC nor Goldman Sachs believed that the £10.8 million interest accrued as at 31 October 2005 was waived or that there was any legal impediment either to its recovery or to the recovery of future interest.

21 October 2009—£17 million

23. At the hearing in the Upper Tribunal on 21 October 2009, Goldman Sachs put the accrued interest at £17 million. Thus in reference to the preliminary issue set out in paragraph 9 above, Mr Justice Norris made this statement in paragraphs 18 and 19 of his judgment:

18. Now, the question whether GSSL was present in Great Britain, (and so meaning that it and not GSI was the contributor), is entirely distinct from the question whether the scheme worked. If it established by the preliminary issue that GSSL was the contributor, then the question of liability of GSI (ie whether the scheme worked) only arises in relation to the GSI employees for the nine months following June 1999. That liability represents only about 25% of the total liability to NIC sought to be imposed by HMRC.

19. Mr Goldberg QC for GSI says that at that level, namely £10 million instead of £40 million in rough figures, the claim is likely to be settled.

24. In other words, according to Goldman Sachs, the accrued interest on 21 October 2009 was £17 million (being £40 million less the NIC principal of £23.2 million).

25. In the event, as explained in my memorandum (paragraph 2.26 to 2.33), Goldman Sachs lost this preliminary argument when it was heard in the First-Tier Tribunal on 17 and 18 December 2009. In his judgement published on 26 April 2010 (see Goldman Sachs International v HMRC [TC00507]), Judge David found (in paragraph 105) “as fact that GSSL was the foreign employer and that GSI was the host employer of the two named individuals throughout those parts of the period relevant to these appeals when GSI was not directly their employer.”

26. Therefore the accrued interest, which amounted to £17 million in October 2009, should increase in line with the relevant statutory rates in the period between the 2009 hearings and 22 February 2011 when the case was settled.

27. As Goldman Sachs’s publicly stated position was that the accrued interest on the unpaid NIC of £23.2 million was approximately £17 million on 21 October 2009 (giving a total liability of “£40 million in rough figures”), the C&AG’s assertion that the accrued interest 16 months later was “between £5 million and £8 million” or “£5 million” (giving a total liability of between £28.2 million and £31.2 million) invites further scrutiny.

28. Furthermore, the passages of the judgment of Justice Norris cited in paragraphs 14 and 23 above show that (contrary to Mr Hartnett’s claims that there was a legal impediment to collecting interest in 2005 and that the litigation was over the principal sum and not about interest) it was public knowledge that the litigation was over both the principal sum and the accrued interest throughout.

22 February 2011—£20 million

29. As explained below, the date of settlement was 22 February 2011 (or more precisely whenever Goldman accepted HMRC’s written offer of that date). The accrued interest at this date would be £20 million in rough figures (comprising the £10.8 million accrued from 12 December 2002 to 31 October 2005 plus the accrued interest from 31 October 2005 to 22 February 2011). Therefore the NIC liability and accrued interest would be £43 million in rough figures.

30. The C&AG’s suggestion (Q121) that: “If the interest had been on the table, it does not follow that because the interest was not considered, as it clearly should have been, the settlement would necessarily have fully reflected that in increased quantum” does not appear to reflect accurately the law or HMRC’s practice given the publicly available facts of this case.

31. In his judgment (paragraph 32) Mr Justice Norris set out the respective positions of both sides (in a passage that further undermines Mr Hartnett’s contentions that the litigation was about the principal sum only and that there was a legal impediment to the collection of the interest) thus:

“HMRC’s publicly stated position is that it is opposed to a settlement of any sort. HMRC will contemplate only capitulation to its present demands. It says that there is no question of settling with GSI in respect of GSI’s liability for the GSI employees because it has already settled with 21 other taxpayers and to settle with GSI would not be consistent with the terms it offered those other 21 taxpayers. There is accordingly no question of a settlement, even a settlement on harsher terms than those put upon the other 21 taxpayers. What is required is complete capitulation. Mr Goldberg QC’s publicly stated position in relation to GSI is that GSI is certainly willing to settle and that, if it wins the preliminary issue, it may well, though no decision has been taken and no offer is made, capitulate on that issue because it is only £10 million out of £40 million.”

32. However, following HMRC’s victory on the preliminary issue in the First-Tier Tribunal and Goldman Sachs’s appeal to the Upper Tribunal, HMRC’s lawyers obtained further confirmation from Malcolm Gammie QC to the effect that it had a “strong” case under the terms of the Litigation and Settlement Strategy (LSS). Therefore, under the LSS and Code of Practice 8 (COP 8) a minimum settlement of about £43 million was expected from Goldman Sachs by those running the case. However, Mr Hartnett appeared to have settled the case for £23.2 million without consulting them thus incurring a loss to the Exchequer in unrecovered interest in the sum of £20 million in rough figures.

33. Furthermore, the LSS and COP 8 authorised HMRC to recover, in addition, a penalty of up to 100% of the £43 million liability. However, unlike interest which is fixed, any penalty would have been subject to negotiation. Indeed, to paraphrase the C&AG’s statement (which should properly apply to penalty rather than to interest in the circumstances of this case): “If the penalty had been on the table, it does not follow that because the penalty was not considered, as it clearly should have been, the settlement would necessarily have fully reflected that in increased quantum”.

The Role of the National Audit Office

34. You will recall that when the MP for South Norfolk challenged Mr Hartnett on the apparent inconsistencies in his account regarding the lost interest at your Committee’s hearing on 17 October 2011, Mr Hartnett’s only recourse was the NAO (Q35): “if the NAO is going to look at the matter, it should all come out then, because there is much more detail to come out.

35. The C&AG and his officials have informed your Committee at every available opportunity that their report covered the Goldman Sachs settlement. However, it is pertinent to note that despite my public interest disclosures to them and the additional information at their disposal all the NAO reported (in paragraph 2.37) was that: “A case was settled before the Department recognised that it should have been referred to the Programme Board. The Board identified a financial error, demonstrating its value as a check on settlement proposals.”

36. The fact that this “financial error” was not corrected resulting in loss to the Exchequer was not apparent in the NAO’s report. Indeed, the report concluded (in paragraph 2.35) that they “did not identify any instances where [the Commissioners’ discretionary powers to forego the collection of tax] were exercised inappropriately.”

37. Moreover, as noted above, the C&AG went to great lengths in his evidence to your Committee on 12 October 2011 to play down the cost to the Exchequer of this “financial error” by, amongst other things, reducing the accrued interest from £20 million to “between £5 million and £8 million” and then to “£5 million”.

38. Since the C&AG has announced (Q230–247 October 2011) that they “would put [themselves] in a position to examine the reasonableness of some of the larger settlements” while Mr Hartnett has assured (Q246) that “it should all come out then, because there is much more detail to come out”, it is worth setting out in more detail the parts of the C&AG’s evidence that require further clarification:

Q120 Chair: Can I ask the Comptroller and Auditor General: do you think the loss to the taxpayer after the settlement with Goldman Sachs was reasonable - bad value, good value?

Amyas Morse: I can certainly say that the error we are talking about, which is referred to in our report-

Q121 Chair: We do not know the quantum. Do you?

Amyas Morse: Let me just go on. I think the error was probably one which might have led to the belief that interest was applicable or mistakenly thinking that interest was not applicable. The range of the error-not simply the amount of tax that might have been involved-that it is reasonable to give is between £5 million and £8 million. However, and having been a tax person myself many, many years ago, negotiating much smaller settlements-I have never negotiated anything of this size-I know that a lot of factors will be involved in this settlement. If the interest had been on the table, it does not follow that because the interest was not considered, as it clearly should have been, the settlement would necessarily have fully reflected that in increased quantum.

Q122 Chair: Did the taxpayer get value for money out of the settlement that was made with Goldman Sachs?

Amyas Morse: I cannot give you an answer. I am not being coy.

Q123 Joseph Johnson: I am sorry; I did not understand the interest that could be lost.

Amyas Morse: What I am trying to say is this. In negotiating any large case, a whole series of factors is taken into account and there is give and take. If it was really an open-and-shut negotiation-forgive me-I am talking from very out-of-date experience. If it was really open and shut, it would be open and shut. It is not as simple as that. There must be a sustainable argument on the side of the taxpayer if there is any prolonged negotiation.

Q124 Mr Bacon: Can I just pick up on that very point? Twenty-one of the 22 scheme users realised that it was open and shut and paid up. The litigation and settlement strategy is very clear. We had this conversation with Lesley Strathie last year on this very point. Where the character of the case is all or nothing, and the question is merely, “Does the law apply or not?”, the strategy says clearly that you should settle for 100% and you should not take down. They took down, in circumstances where it was quite clear that interest was applicable. Not only that, HMRC had actually warned Goldman Sachs that if it persisted in resisting, which it did for five years with a lot of spurious arguments in front of the tribunal with stooge witnesses, that interest would be liable. HMRC itself had told Goldman Sachs that interest would be liable; that is the context.

Amyas Morse: Well, not necessarily. Setting aside for a minute whether we are talking about Goldman Sachs, if in a multi-factor settlement there was an admitted mistake in taking into account entitlement of interest, I am simply making the point that if you say, “That amount of mistake is exactly the amount of tax lost”, it is a little bit simplistic. There was a composite settlement. I think that is all I can say.

Q125 Matthew Hancock: Are you saying that the cost due to this mistake is £5 million to £8 million?

Amyas Morse: I am saying that the quantum of the mistake was £5 million.

Matthew Hancock: The financial error was £5 million.

39. I hope that this additional public interest disclosure will assist your Committee and the NAO in determining the quantum of the loss to the Exchequer in accrued interest and penalty on the Goldman Sachs settlement.

B. The Processes that Led to the Goldman Sachs Settlement

40. Regulation 11 of the Social Security Contributions (Decisions and Appeals) Regulations 1999, which applies to the Goldman Sachs settlement, provides as follows:

Settling of appeals by agreement

11.—(1) Subject to the provisions of this regulation, where before an appeal is determined by the tribunal, an officer of the Board and every person who has appealed against the decision come to an agreement, whether in writing or otherwise, that the decision under appeal should be treated as upheld without variation, as varied in a particular manner or as superseded by a further decision, the like consequences ensue for all purposes as would have ensued if, at the time when the agreement was come to, the officer of the Board had made a decision in the same terms as the decision under appeal, had varied the decision in that manner or had made a decision superseding the decision under appeal in the same terms as that further decision, as the case may be.

(2) Where an agreement is come to in the manner described in paragraph (1) the appeals of all persons who have appealed against the decision lapse.

(3) Notice of the agreement must be given by the officer of the Board to the persons named in the decision who have not appealed against it.

(4) Where an agreement is not in writing–

(a) the preceding provisions of this regulation do not apply unless the fact that an agreement was come to, and the terms agreed, are confirmed by notice given by the officer of the Board to the appellant and any other person who has appealed against the decision or by the appellant or any other person who has appealed against the decision to the officer of the Board; and

(b) the references in those provisions to the time when the agreement was come to shall be construed as references to the time of the giving of the notice of confirmation.

41. Therefore, while regulation 11(1) of the Social Security Contributions (Decisions and Appeals) Regulations 1999 authorised Mr Hartnett to “shake hands” on the proposed settlement on 19 November 2010 in the exercise of his managerial discretion, regulation 11(4) ensured that this informal agreement was not binding on HMRC until the fact that an agreement was come to, and the terms agreed, was confirmed in writing. As explained below, this happened on 22 February 2011 when litigation lawyer wrote to Goldman Sachs’s lawyers on Mr Inglese’s instructions confirming the non-binding deal struck by Mr Hartnett.

42. It is helpful to consider the intervening events between these two dates, in particular the meeting of the High Risk Corporates Programme Board on 30 November 2010 and the meeting of the lawyers on 8 December 2010, against this legal background.

Informal Settlement on 19 November 2010

43. At your Committee’s hearing on 12 October 2011, Mr Hartnett stated that he went to Goldman’s offices on 19 November 2010 “to assist [his] colleagues (namely ‘the head of our banking sector in the large business service and the case relationship manager with the bank ... who were managing the issues’) to deal with a very difficult relationship issue” (Q16–Q17). However, he ended up “shaking hands” on the ongoing litigation without consulting the lawyers running the case, none of whom was present at the meeting. Consequently, as the note of their meeting on 8 December 2011 put it: “GS had apparently suggested the principal might be £16 million”. In fact, it was £23.2 million.

44. At your Committee’s hearing on 17 October 2011, Mr Hartnett gave this further evidence:

Q241 Dave Hartnett: ...I think I explained to the Treasury Committee that there were actually two mistakes. There was one financial error, and there was a mistake made in not reporting the case instantly to our high-risk corporate programme board.

Q242 Mr Bacon: When you say not reporting the case, do you mean not reporting the settlement?

Dave Hartnett: Not reporting the settlement, yes.

Q243 Mr Bacon: So you cut a deal but you did not tell anybody? Is that what you are saying?

Dave Hartnett: No, no. I am not saying that at all.

Q244 Mr Bacon: ... A deal was struck but it was not reported immediately. What does that mean, if not that you cut a deal but you didn’t tell people?

Dave Hartnett: A settlement was reached, which all the HMRC people believed to be within the authority of the sector lead and the case relationship manager to reach. Over the weekend following the settlement, the sector lead began to realise that it was not within his competence to do that. That was the other mistake, and it was referred late to the high-risk corporate programme.

Q245 Mr Bacon: Right. How late? How much later was it referred?

Dave Hartnett: Days.

Q246 Mr Bacon: And why wasn’t it within his competence?

Dave Hartnett: Because he had not fully consulted the other areas of our business interested in the issues.

Q247 Mr Bacon: That sounds familiar, actually-not consulting people who are familiar with the issues. So that was the second mistake: the deal was not reported immediately. The first mistake was what you described as a financial error.

Dave Hartnett: The NAO described it as such, but I agree with the description.

Q248 Mr Bacon: That was also the legal error in thinking that you could not charge interest, was it?

Dave Hartnett: Yes.

Q249 Mr Bacon: Whereas you actually could. In coming to the conclusion that you could not charge interest, did you consult lawyers about that?

Dave Hartnett: No.

Mr Bacon: You didn’t?

Dave Hartnett: No.

45. Although there is no dispute that HMRC’s corporate governance rules were not met in reaching the Goldman Sachs settlement, it is necessary to highlight these rules, as set out in the Litigation and Settlement Strategy and the High Risk Corporates Programme, in order to obtain as full a picture as possible of the events surrounding the settlement.

Litigation and Settlement Strategy (LSS)

46. The 2007 LSS (the LSS was recently “refreshed”) emphasised (in paragraph 13) that settlement terms must be consistent with the reasons for undertaking an enquiry in the first place, which are to influence taxpayer behaviour positively and to challenge behaviours that contribute to the tax gap. Thus while that version of the LSS clearly anticipated that deals would continue to be done, it set out a number of principles which must be applied in reaching settlement. The main principles were as follows (paragraphs 14–16):

Some disputes have an all-or-nothing character, involving a single point of law that would be decided one way or the other by the courts, with no middle ground. Such disputes should be settled on all-or-nothing terms: do not split the difference or offer any discount for an agreement not to litigate.

Where there are good grounds to believe that negligence or evasion is involved (i) settlement terms must not allow these behaviours to be rewarded by financial gain and so must include a best estimate of the tax and interest due (ii) Do not undercharge tax, interest or penalties in the interest of quick settlement, even if doing so would provide a good return on time spent on the case. Always consider whether settlement terms do enough to promote positive customer behaviours and deter non-compliance.

In avoidance cases (i) do not assume the facts are as described in the scheme. Check for implementation failure and always consider a penalty if an avoidance scheme fails because it has not been implemented correctly; (ii) if our legal advice is strong, do not accept settlements for less than 100% of the tax and interest due.

47. According to paragraph 2.21 of the C&AG’s report: “The Litigation and Settlement Strategy sets out a clear framework for resolving disputes. When settlements are authorised, whether by Commissioners, the Programme Board or at lower levels, there is a requirement to confirm that the settlement complies with the Litigation and Settlement Strategy.” Clearly, this requirement was not met in reaching the Goldman Sachs settlement.

High Risk Corporate Programme (HRCP)

48. The C&AG’s report also describes the processes applying to the largest disputes under the HRCP as follows:

2.12 The Department has five Commissioners, who have ultimate responsibility for collecting and managing tax revenues. In practice, Commissioners are normally only directly involved in signing off the settlement of the largest tax disputes. ...

2.16 For disputes dealt with outside the Programme, the Customer Relationship Manager is initially responsible for bringing together the relevant specialists in resolving tax issues. The Department encourages these parties to reach consensus on how the issue should be resolved but, if they cannot agree, then the issue is escalated to the relevant Directors for a decision.

2.17 There are defined procedures for signing off settlements for cases within and outside of the Programme. For cases outside the Programme where the tax under consideration is less than £100 million, agreement must be reached between the relevant stakeholders. Since November 2009, cases must be referred to the Programme Board before settlement where the tax under consideration exceeds £100 million, and there is a proposal for the Department to concede one issue or more, or to accept less than 100 per cent of the total tax under consideration, or where the case and issues are particularly sensitive.

2.18 For companies within the Programme, the decision is taken by the Programme Board if the tax under consideration exceeds £20 million for one issue or £50 million for a combination of issues in a settlement, or where there are issues of particular sensitivity, difficulty or with wider significance. Issues of lower value are also referred to the Programme Board where the Department’s stakeholders cannot reach consensus. The Programme Board must reach a consensus on the matters referred to it; it does not take decisions by majority. Any issues where the Programme Board cannot reach a consensus are referred to Commissioners for sign off.

2.19 All individual issues where the tax under consideration is more than £250 million, or where there is potential for adverse national publicity or for questions to be raised in Parliament, or which represent a significant departure from previous policy, must be signed off by Commissioners. In practice, two Commissioners are required to sign off settlements, usually the Permanent Secretary for Tax, as the Department’s senior tax specialist, and the Director General for Business Tax.

2.20 The Department has established teams of specialists for taxes, aspects of taxes and policy and legal matters and has processes for involving relevant specialists in considering each tax dispute. The requirement for consensus among these specialists, and defined procedures for escalating issues where agreement cannot be reached, help to ensure that the relevant knowledge and expertise are deployed.

49. Therefore, it is significant that, in the words of Mr Hartnett, on 19 November 2010 “a settlement was reached, which all the HMRC people (including Mr Hartnett who set up the HRCP) believed to be within the authority of the sector lead and the case relationship manager to reach”, and “over the weekend following the settlement, the sector lead began to realise that it was not within his competence to do that”; yet on 22 February 2011 this flawed, non-binding settlement was completed by HMRC’s lawyers.

The HRCP Board Meeting of 30 November 2010

50. In the meantime, on 30 November 2010, the proposed settlement was submitted to the HRCP Board (where it properly belonged) for approval. The note of the meeting on 8 December 2010 gives this account: “AE [Mr Alan Evans, the Solicitor’s Office senior representative in the High Risk Corporates Programme Board] explained that at the High Risk Corporates meeting the previous week a late submission had come in about a deal on which DH had ‘shaken hands’ with GS. The status of this agreement was not clear.

51. Furthermore, there appears to have been a suggestion to the Board that the interest was not recoverable: “A brief note was prepared for the meeting including at pt 3 a suggestion that, whilst the NIC principal might be protected, the interest might not.” At the meeting of 8 December 2010, the litigation lawyer corrected this misrepresentation: “DR said this was not correct; it was all covered, per his note.”

52. At the Board’s meeting of 30 November 2010, Mr Alan Evans reportedly raised some concerns about the proposed settlement. As the HRCP Board must reach a consensus on the matters referred to it and does not take decisions by majority (see paragraph 2.18 of the C&AG’s report), it appears that the settlement was not approved at this meeting.

53. It was following this meeting that Mr Hartnett, who had returned to the country on 5 December 2010 (see Q511 of the evidence taken on 17 October 2011), sought Mr Inglese’s assistance (see Q342 to Q351, and Q333 to 337 of the evidence taken on 7 November 2011) on 7 December 2010.

The Meeting of the Lawyers on 8 December 2010

54. Mr Inglese informed your Committee (Q339) that: “On 7 December, I started to gather information. I convened meetings on 7 and 8 December.” The note of the meeting of 8 December 2010 shows that the information he obtained from his litigation lawyers included the following:

(a)Counsel’s positive opinion on the strength of HMRC’s case. (“Mr Gammie’s advice was broadly positive both on whether we had the right GS company and in relation to the scheme”).

(b)Confirmation that the accrued interest was protected through a County Court claim and was thus recoverable. (“A brief note was prepared for the meeting including at pt 3 a suggestion that, whilst the NIC principal might be protected, the interest might not. DR said this was not correct; it was all covered, per his note”).

(c)Details of the 2005 settlement and the lack of clarity on the details of the proposed settlement. (“It was not clear whether DH had settled on £24 million or on whatever the principal was. There was discussion about whether there could be justification for settling without interest, especially in view of the Litigation [and Settlement] Strategy. A particular concern was the 2005 ExCom settlements with all the other scheme users. AI asked if there was a risk of that being re-opened”).

(d)Conduct of Goldman Sachs in the litigation. (“It was however, clear that the proposed settlement gave GS no additional penalty for having resisted for five more years, including as DR explained raking [up] every conceivable point in the Tribunal, and putting up a ‘stooge’ witness when Mr Housden was the obvious person to answer questions.”)

55. Furthermore, Mr Inglese would have been aware that under regulation 11 of the Social Security Contributions (Decisions and Appeals) Regulations 1999 was no binding agreement, as the proposed settlement was yet to be confirmed in writing.

Final Settlement of 22 February 2011

56. As General Counsel and Solicitor, Mr Inglese is “responsible for all legal services to HMRC and for corporate governance.” It is clear that the proposed settlement was in breach of both HMRC’s corporate governance rules and the law (the courts have established in cases such as Commissioners of Inland Revenue v National Federation of Self-Employed and Small Businesses Ltd (1981) 55 TC 133 and Wilkinson v. Commissioners of Inland Revenue (2005) 77 TC 78) that “the Commissioners’ managerial discretion is as to the best manner of obtaining for the national exchequer the highest net return that is practicable”).

57. Nevertheless, despite Mr Inglese’s reluctant admission to your Committee that the settlement was not binding at the time (Q313 to Q322), his legal advice to Mr Hartnett (having obtained the information set out above during the meeting with the litigation lawyers on 8 December 2010) was “You can go back, or you cannot go back” (Q330) while his “preference was for not going back” (Q379).

58. Consequently, on 22 February 2011, on Mr Inglese’s instructions, the litigation lawyer sent the relevant written confirmation to Goldman Sach’s lawyers, requesting their signed copies. By virtue of regulation 11 of the Social Security Contributions (Decisions and Appeals) Regulations 1999, the deal on which Mr Hartnett shook hands on 19 November 2010 only became binding on HMRC on this date.

C. Forward Tax Agreement on the Vodafone Settlement?

59. You will recall that MP for North East Cambridgeshire made this crucial observation at your Committee’s hearing on 7 November 2011 in relation to the Vodafone settlement:

Q586 Stephen Barclay: I think the quantum is much more important than Goldman Sachs. Between 2001 and 2011, as far as Vodafone is concerned, we are looking at in the region of £25 billion in profits. The settlement—the 30%; obviously, it came down in the latter years—seems strange on a number of levels. First, it includes the 2011 and 2012 profit, but given that the settlement was reached in 2010, I would welcome your thoughts on how they knew what the profit would be for 2011 and 2012, given that those profits had not been realised. Also, the £1.25 billion looks like it has been based on about 20% of Vodafone’s profits. That means the Exchequer may have lost around £8 billion in tax, which makes Goldmans look paltry in comparison.

60. However, as explained in paragraph 3.28 of my memorandum, it is settled law, confirmed in Al Fayed and Others v Advocate General for Scotland (representing the Inland Revenue Commissioners) [2004] STC 1703, that the Commissioners lack the power to enter into agreements relating to future tax liabilities.

61. The case concerns a “forward tax agreement” entered into between the Inland Revenue and Mohammed Al Fayed. Three successive agreements were entered into with Mr Al Fayed in 1985, 1990, and 1997 under which Mr Al Fayed would pay, and the Revenue would accept, a specified sum in respect of designated future years of assessment in full and final settlement of tax to which the Al Fayed might otherwise have been liable. The 2007 agreement covered the years 1997–98 to 2002–03 and provided for payment of a sum of £240,000 per annum which represented an indexation of figures in the earlier agreements in 1985 and 1990 to take inflation into account.

62. The Revenue had not sought legal advice, either internally or externally, before entering into any of the three agreements. In May 2000, the Revenue received the opinion of counsel, which was to the effect that the 1997 Agreement was ultra vires and thus not binding on the Revenue.

63. So in June 2000, the Revenue informed Mr Al Fayed that the agreement was not enforceable because it was ultra vires but that in view of the history of the arrangements the Revenue would not re-open the issue of liability to tax prior to 5 April 2000. However, for the years from 6 April 2000 onwards Mr Al Fayed was required to complete tax returns in accordance with his normal statutory responsibilities, and without reference to the 2007 agreement.

64. Mr Al Fayed appealed this decision but his argument that the Revenue was obliged to abide by the agreement did not find favour with the Scottish courts. Upholding the decision of the Outer House of the Court of Session in favour of the Revenue, the Inner House held that the agreement was ultra vires. According to Lord Cullen:

[73] Under taxation legislation the respondents [the Inland Revenue] have the duty of collecting tax as it falls due in respect of actual transactions. ... The respondents have no power to require a taxpayer to accept an advance assessment of his liability to tax in a future year or years. Likewise they have no power to contract with the taxpayer as to his future liability (see Gresham Life Assurance Society v. Att-Gen.).

[74] Next, even if the sum to be paid under an agreement between the respondents and the taxpayer was a reasonable estimate of the taxpayers’ liability at the outset of the period covered by the agreement, it could not be taken as a measure of that liability throughout the period. ... In these circumstances we accept the respondents’ argument that such an agreement would involve a failure on the part of the respondents to exercise their managerial discretion, in the words of the Master of the Rolls in R (Wilkinson) v. I.R.C., to which we have referred earlier, “as to the best manner of obtaining for the national exchequer the highest net return that is practicable”.

65. Mr Al Fayed’s counsel had sought to make an analogy with “back tax agreements”, the practice whereby the Revenue negotiate a settlement with the taxpayer in relation to periods already ended, but this was rejected by the courts. In a passage that appears to be particularly relevant to the Vodafone settlement, Lord Cullen said this:

[76] A back tax agreement relates to a situation in which the taxpayer has already incurred the tax liability, but its amount has not been determined. Fundamental to the legality of such an agreement is that the respondents have the power to require the taxpayer to pay what is due. As an alternative means to the same end they are regarded as having the power, in the exercise of their managerial discretion, to enter into a contract with the taxpayer for a payment in satisfaction of that liability. In that context they have power to arrange a compromise with the taxpayer, taking into account such factors as may be relevant. The fact that such an agreement is within the powers of the respondents cannot confer on them a power to enter into a forward tax agreement which otherwise would be ultra vires. Combining the two agreements in a single document, or agreeing that one is to form a consideration in respect of the other, makes no difference.

66. Finally, in relation to Mr Al Fayed’s argument that even if the agreement was ultra vires, it would be unfair and a breach of his legitimate expectation should the Revenue resile from it, Lord Cullen stated:

[119] We have already reached the conclusion that, as the 1997 Agreement was ultra vires, the respondents did not have any discretion to continue to abide by the Agreement once they knew that it was ultra vires. A decision taken at that stage to continue to be bound by the Agreement for the remainder of its contractual duration would, in our opinion, have been outwith the powers of the respondents. However, under our domestic law a legitimate expectation can only arise on the basis of a lawful promise, representation or practice. There can be no legitimate expectation that a public body will continue to implement an agreement when it has no power to do so. In our opinion, the petitioners could not have had a legitimate expectation that the respondents would have adopted a course of action which was outwith their powers, and continued to maintain a contract which was unlawful.

67. The difficulty identified by the MP for North East Cambridgeshire, namely: how to determine Vodafone’s profit for 2011 and 2012 in 2010, illustrates why forward tax agreements cannot be a lawful exercise of the Commissioners’ discretion as to the best and most practicable means of maximising taxes for the Exchequer.

68. However, in view of the fact that the NAO’s further work is “to examine the reasonableness of some of the larger settlements, probably with the benefit of some tax advice”, it should be noted that if there was a forward tax agreement on the Vodafone settlement, it would remain ultra vires and not binding on HMRC even if the terms of settlement are not unreasonable. Regardless of their terms, forward tax agreements are by their nature unlawful.

Conclusion

69. In conclusion, it is worth remembering that, just like the Commissioners, the C&AG has the discretion, by virtue of section 182 of Finance Act 1989, to disclose information provided to the NAO by HMRC to your Committee in order to assist with your oversight functions.

70. In thanking you in advance for your assistance in this matter, I avail myself of this opportunity to renew the assurance of my highest consideration.

21 November 2011

Prepared 19th December 2011