Divorce and tax avoidance schemes – by Frank Arndt

Divorce|February 12th 2010

Do you or your spouse currently use an offshore tax avoidance scheme?

If you do, and you are also considering divorce, I recommend that you take notice of a recent legal precedent that means Her Majesty’s Revenue and Customs can now close tax loopholes retrospectively and claw back unpaid taxes from trusts which have benefited.

We often see cases at Stowe Family Law in which husbands (more than wives, in our experience) have invested in elaborate tax avoidance schemes. These arrangements have been mostly disclosed during proceedings, but they become a Trojan horse when the Inland Revenue declares they might lead to a huge tax liability in the future.

The case I mention above concerns a self-employed IT consultant called Robert Huitson who set up a tax avoidance scheme in 2001 which took advantage of the Double Taxation Treaty between the United Kingdom and Isle of Man.

The Finance Act 2008 made Mr Huitson’s arrangement illegal and HMRC handed him a bill for £100,000 in unpaid tax. He claimed he couldn’t pay the bill as he had spent all of his income during the period on his lifestyle.

He was not alone. By the time the Finance Act 2008 came into force there were around 2,500 taxpayers exploiting similar arrangements, and the amount of income tax at stake was £100 million.

Mr Huitson tried to challenge his tax bill on the basis that changes outlined in the Finance Act 2008 regarding double taxation relief were applied with “retrospective effect”. This meant that the loophole was not only closed in the future, but also in the past. Mr Huitson’s legal team argued that the Human Rights Act made it illegal to pass laws that could be retrospectively enforced.

The judge however decided that the Financial Act 2008 struck a fair balance between Mr Huitson and those using a similar scheme on one hand, and ordinary taxpayers on the other. He added that previous attempts to close the loophole had also been backdated, and that Mr Huitson should have anticipated that the same thing would happen to him.

Despite the fact that HMRC could make many people homeless or bankrupt through big tax bills, the judge discouraged HMRC from being lenient with those who owed money. He asked HMRC to consider whether such leniency was fair to everyday tax payers and those involved in the scheme who have set money aside for possible taxation.

So what you might ask does this mean for tax payers and couples considering divorce, or currently going through a divorce?

It is clear that HMRC will readily challenge this sort of arrangement and those using a similar scheme are wise to make sure they have liquid funds available so that any future demands can be met, including claims for interest and penalties.

The lesson for those considering divorce is very similar; if you or your spouse employ an elaborate tax avoidance scheme or invest in illiquid assets that might decline in value, and choose to spend all of your income on your lifestyle then you do so at your own risk. You need to ensure that any court order provides for this possibility, so that if you are subsequently caught post-divorce you do not bear the risk alone.

If you are unaware of your spouse’s financial investments and you only find out when you actually receive their financial disclosure during the divorce it might be to too late to claim you had nothing to do with them.

This reminds me of the 2008 case of S v S (EWHC 1925) in which the husband had been convicted of tax evasion and fraud and imprisoned. A criminal confiscation order of £900,000 had been made against him and the court decided that his wife’s claim for financial support should not be prioritised over the order. In reaching his conclusion the judge rejected her claim that the assets were “untainted” by his activity as the family had become heavily reliant on tax evasion to fund their lifestyle.

Divorce courts are more than prepared to insist money be added back into the matrimonial pot, regardless of whether an investment has been successful or not – but you do need  a compelling reason for them to do so.

However, it is best not to wait until you have no other choice but to accept that outcome, as the taxman will be first in line for payment if any unpaid tax, penalties or interest is at stake.

Getting involved in the financial planning of your family and your future is the only sure way of protecting both.

Frank Arndt heads the International Law Department at Stowe Family Law. He is a qualified lawyer in two European countries, a qualified judge in Germany and a registered European lawyer with the Law Society in England. An expert in cross-border family law, he regularly advises on cases involving families and assets scattered across continents.


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