EM3236 - Discovery: making a discovery - whether there is a discovery: presumption of continuity

In certain circumstances, evidence of omissions from one or more years’ returns allows an officer to infer that the omissions will have continued in other years.

In the absence of evidence to the contrary, a ‘presumption of continuity’ can be made and the officer can be entitled to conclude that under-declarations in some years can be taken as an indicator of under-declaration in others and make discovery assessments accordingly.

If there is only one under-declaration shown in only one year, additional evidence will be required to conclude that other years’ figures may also be inaccurate.

During an Enquiry

In practice, two sets of circumstances frequently arise

  • there are proven omissions for the enquiry year but no investigation or evidence of omissions from previous accounts - for example, where a business economics exercise has been used for one year only, or
  • there are proven omissions for some years but not for others - for example, where capital statements have been used.

During an enquiry, HMRC will usually obtain evidence about the conduct of the business, the record keeping, as well as the lifestyle etc. of taxpayers. Where some - or all - of these have pointed to understatements of income the officer should establish the reason(s) for these before proceeding further.

If HMRC have only found one omission in one year and, when asked, the taxpayer is able to provide a reasonable explanation for it, HMRC would not be in a position to argue for additions to other years based on that fact alone.

However, if HMRC have proven omissions for which there is no ready explanation, and the business and way of life of the taxpayer have not changed HMRC will likely be in a position to argue for similar additions in other years.

Making Assessments

Assessments should not normally be raised before HMRC have a case both for the existence of current year assessed liabilities and for the presumption of continuity. The officer should first satisfy themselves that any inferences they are drawing about the years in question are reasonable in all the circumstances of the existing enquiry.

If the taxpayer does not accept that additions are required for all years or disputes the amount of the additions and this dispute is not resolved by the review process, the taxpayer will be able to notify their appeals to the tribunal for a decision. ARTG2100+ provides more detailed information on this process. Once assessments are made and appealed against, the onus falls on the appellant to displace them.

The ‘presumption of continuity’, alone does not justify increases in assessments on its own; the onus is on HMRC to produce evidence in support of the argument. Where the appellant provides evidence that suggests that the accounts do not understate profits but does not demonstrate a change in practices since the year(s) where the understatement of profits has already been evidenced, the ‘presumption of continuity’ can only cast doubt on the appellant’s evidence, it does not replace the need for the Officer to provide evidence to support their arguments.

Business Incorporation

The limitations on the use of the presumption of continuity are particularly important when an officer is considering periods prior to the incorporation of a business.

The company and the sole trader (or partnership) are separate legal persons and evidence against one is not necessarily evidence against the other (although it could be) - this was made clear in the Court of Appeal judgment in Rose v Humbles, 48 TC 123, [1972] 1 WLR 33. The Officer should carefully examine the similarities in the business methods used during the two (or more) periods and will need to establish that the inaccuracies uncovered during the company enquiry also existed in the earlier, unincorporated, period(s).