Will the decreasing tax penalty revenues leave a hole to plug?

When looking at penalty revenues on a yearly basis, an interesting trend arises. In the 2018/19 financial year, the penalty receipts from taxes and duties, excluding penalties in relation to National Insurance contributions (NIC), was £753m. However, HMRC enquiries reduced during Covid and a lighter touch was applied, with the penalty take bottoming at £447m in 2020/21. As the shackles on HMRC lifted by 2022/23, revenues were back to pre-Covid levels at £762m, but that was nothing compared to the bumper year in 2023/24 which brought in a whopping £1,169m in penalties.

It is difficult to say precisely what contributed to this 53% year-on-year increase in penalties, and surprisingly HMRC didn’t shine a spotlight on the increase in its annual report published in July 2024. Some of the obvious areas behind the increase might be the compliance activity around the Covid support schemes, or the well-publicised crackdown on the fraud and abuse in relation to research and development claims.

Offshore non-compliance is another area in which penalties have risen and HMRC has increased its focus. HMRC receives a significant amount of financial information from other tax authorities about UK taxpayers’ funds held overseas. Using this information, "nudge letters" are issued to taxpayers asking them to either self-certify their compliance or to disclose amounts not previously included on tax returns. This has been successful in increasing tax revenues for HMRC, but also penalty levels. Disclosures of offshore income and gains by individuals often attract higher penalty rates. Couple that with the disclosure being deemed as "prompted" by an HMRC letter and this can bring in higher revenue without the need to allocate significant resources.

However, whatever the driver for the increase in 2023/24, it does not appear to have carried over into the current year. When you look at penalty revenues for the start of the 2024/25 financial year, there is a very different picture emerging. 

Comparing the penalty revenues for the first five months of the financial year, we see a year-on-year decrease of 31% or £161m. If this trend continues for the remainder of the financial year, this could lead to another unexpected hole in the finances and a decrease in HMRC receipts of £362m.

Although this decrease in penalties may be doom and gloom for the government, it could be good news for taxpayers and the result of a more consistent approach to the application of penalties. Alternatively, it may be that HMRC is accepting that taxpayers have made errors in their returns, despite taking reasonable care, or it could indicate that HMRC is suspending more "careless" penalties meaning that taxpayers may not need to actually pay the amounts. All of these would be welcomed by those advisers (and taxpayers) who have been on the wrong end of an overzealous application of the rules.

On 23 September 2024, Rachel Reeves gave her first Labour conference speech as Chancellor of the Exchequer. On the same day, an "HMRC package" press release was published which included an update that 200 additional staff are expected to join HMRC’s training programme in November, as part of HMRC’s plans to recruit an additional 5,000 compliance staff to focus on closing the tax gap.

This is a welcome initiative to restock a department that has seen its fair share of cuts, and with HMRC’s monthly statistics on penalties indicating revenues in those compliance activities falling, HMRC will need all of that new resource, and more, to help fulfil Labour’s pledges.