Her Majesty’s Revenue and Customs (HMRC) continues to make progress in ensuring that income tax levied under the Scottish rate will be assessed and collected properly, but still faces significant challenges to ensure that all Scottish taxpayers are correctly identified, according to a report by the National Audit Office today.

The key challenge to HMRC’s delivery of the Scottish Rate of Income Tax (SRIT) is maintaining and updating its record of address details in order to identify Scottish taxpayers. Building on work undertaken in previous years to assure the accuracy of its initial Scottish taxpayer population, HMRC continues to mitigate this key risk. It is essential for HMRC to identify Scottish taxpayers and maintain a correct record of their addresses so that it can calculate accurately tax collected and the amount of revenue that the Scottish Government receives as part of its block grant in future years.

As a result of an error in the design of HMRC’s taxpayer identification exercise in December 2015, 420,000 potential Scottish taxpayers did not receive a notification letter. HMRC was notified quickly of this issue by other stakeholders, such as the Scottish Government, employers and taxpayers. HMRC engaged its IT supplier to investigate the issue in January 2016, and confirmed the total number of affected individuals in April 2016.  The 420,000 omitted taxpayers received coding notices which informed them of the change in their annual tax code, and provided basic information on what was meant by an ‘S’ code. By not issuing the same level of information as the 2.45 million taxpayers originally identified in December 2015, HMRC may have created a less informed group of taxpayers.

An interim solution was put in place by June 2016 to issue coding notices for the 2016-17 tax year to the 420,000 taxpayers omitted from the initial identification scan. A permanent IT solution was implemented in October 2016 to bring these taxpayers within HMRC’s automated process for future years, and to ensure that all in-year changes of Scottish taxpayer status for these customers were correctly reflected in 2016-17 codes. We will assess the effectiveness of this approach in our next report, which will focus on 2016-17 activity.

HMRC has undertaken specific analysis into high-risk areas within the taxpayer population. It has individually assessed all taxpayers with postcodes spanning the Scotland-England border; contacted all taxpayers with a Scottish correspondence address directly; and is in the process of cleansing incomplete Scottish addresses. This work has enabled HMRC to continue to refine their Scottish taxpayer population, following work undertaken in previous years to assure its initial accuracy.

HMRC’s ability to assure the amount of tax collected for the Scottish Government will be undermined where taxpayers fail to update their address details. HMRC should continue to communicate this key message to taxpayers. In 2015-16, HMRC spent £1,081,000 on communications with potential Scottish taxpayers about SRIT. HMRC has engaged with employers, agents and payroll specialists to raise awareness with key stakeholder groups. It has also conducted specific research with perceived “high risk customer groups” to evaluate the effectiveness of its wider communication approach.

A future divergence of tax rates or thresholds between Scotland and the rest of the UK presents the possibility of tax avoidance and evasion. HMRC has developed a compliance strategy that considers this risk. The majority of compliance activity will commence in 2017-18.

The ability to provide an IT solution allowing personal pension providers to claim relief at source continues to be a significant risk for the future. If tax rates between Scotland and the rest of the UK diverge, Scottish taxpayers will be due a different rate of relief-at-source on their personal pension contributions. From 2018, HMRC must notify pension providers of the correct rate of income tax for their scheme members to allow pension providers to apply the correct rate of relief-at-source. HMRC is working closely with the pensions industry to deliver the solution required for the relief at source system to accommodate the SRIT.

HMRC face significant challenges in administering SRIT, particularly when tax rates and thresholds differ between Scotland and the rest of the UK. It is crucial that it maintains accurate address information for Scottish taxpayers, and ensures that the potential for tax avoidance and evasion is mitigated. HMRC also needs to be able to report the actual amount of SRIT collected to the Scottish Government, and provide an IT solution that allows private pension providers to claim relief at source.

Amyas Morse, head of the National Audit Office

Read the full report

The administration of the Scottish Rate of Income Tax 2015-16

Notes for editors

2.45m individuals HMRC identified as potential Scottish taxpayers and who were issued with a Scottish taxpayer notification letter 420,000 The number of potential Scottish taxpayers who were excluded from the initial identification exercise, but received a Scottish tax code early in 2016-17.    £8.4m Amount reimbursed to HMRC by the Scottish Government in respect of implementing the Scottish Rate of Income Tax during 2015-16  
  1. The Scotland Act 2012 introduced powers for the Scottish Parliament to apply a Scottish Rate of Income Tax (SRIT) to the non-savings, non-dividend income of Scottish taxpayers from 6 April 2016. Section 25 of the Act defines a Scottish taxpayer as someone whose main place of residence in a given tax year is Scotland, or who spends most of that tax year living in Scotland.
  2. As a result of the Scotland Act 2016 from 2017-18, the Scottish Parliament will have the power to set the rates and band thresholds (excluding the personal allowance) that apply to all non-savings and non-dividend income tax paid by Scottish taxpayers. HM Revenue & Customs continues to administer and collect Scottish income tax as part of the UK tax system.  It will pay revenues related to its Scottish tax powers into the UK Consolidated Fund in the same way as it does for all other tax receipts. These revenues will subsequently be transferred to the Scottish Government and the Scottish Government's resource block grant will be reduced accordingly reflecting its revenue raising powers.
  3. The Auditor General for Scotland has provided additional assurance on the NAO’s review of HMRC’s preparedness in implementing the SRIT. This can be found here.
  4. Press notices and reports are available from the date of publication on the NAO website. Hard copies can be obtained by using the relevant links on our website.
  5. The National Audit Office scrutinises public spending for Parliament and is independent of government. The Comptroller and Auditor General (C&AG), Sir Amyas Morse KCB, is an Officer of the House of Commons and leads the NAO, which employs some 785 people. The C&AG certifies the accounts of all government departments and many other public sector bodies. He has statutory authority to examine and report to Parliament on whether departments and the bodies they fund have used their resources efficiently, effectively, and with economy. Our studies evaluate the value for money of public spending, nationally and locally. Our recommendations and reports on good practice help government improve public services, and our work led to audited savings of £1.21 billion in 2015.