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Perils of Privilege

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Legal professional privilege can play a significant part in tax disputes and litigation. In the wake of Financial Institution Notices, George Gillham and Christopher Kientzler, part of the Fieldfisher Tax Disputes and Investigations Team and authors of the chapter on privilege in the new Bloomsbury title, 'Law and Regulation of Tax Professionals', revisit common privilege problems in the tax context and explain why advisors should know about them and why clients can benefit from lawyers' involvement

Financial Institution Notices

As of Royal Assent to the Finance Act 2021 (10 June) the Government has extended HMRC's information powers to widen HMRC's information powers by introducing Financial Institution Notices (or FINs). The aim of these is to make it easier and quicker for HMRC to obtain information and documents in the context of an enquiry. That is no surprise because documents, what they say and what they do not say, and whether HMRC can find a document that supports their case form a large part of complex disputes with HMRC.

Privilege in outline

Notably, the new legislation still allows financial institutions to withhold privileged material.

Legal professional privilege is a legal right to withhold certain information from another party, sometimes in a contentious context.

Its rules are complex, ever evolving and difficult to navigate. But in practical terms, the pitfalls and complexities of privilege play a significant part in managing complex disputes and litigation with HMRC.

The two limbs of privilege

Privilege arises under two main limbs:

  • Legal advice privilege (LAP)

Legal advice privilege protects (written or oral) confidential communications between a lawyer and their client for the dominant purpose of giving or receiving legal advice. It also usually protects documents (or parts of documents) which reflect such a communication.

A lawyer, for present purposes is a solicitor, barrister, or foreign lawyer acting in a professional capacity or someone under their supervision such as a trainee or paralegal (for present purposes a "lawyer").

Legal advice privilege has the benefit of covering communications at any point but the disadvantage that it only covers client/lawyer and lawyer/client communications and not client/other professional or other professional/client communications.

  • Litigation privilege (LP)

Litigation privilege can cover third-party communications (including potentially client/tax advisor and tax advisor/client) but is only engaged when the communication is made for a dominant litigation purpose and when litigation is reasonably in contemplation.

HMRC's information powers and statutory analogs of privilege

In addition, there are two limited statutory analogs of these heads of privilege contained in FA 2008 Schedule 36. Schedule 36 sets out HMRC's powers to compel taxpayers, their advisers, financial institutions and third parties to information to provide information to HMRC. In exercising its powers, HMRC cannot compel certain classes of people to provide:

  • an auditor's or tax adviser's document (paragraph 24 and 25); or
  • information that relates to the conduct of an appeal (paragraph 19).

But, this does not prevent HMRC seeking disclosure in an application to the Tribunal and in the authors' experience this does not always stop HMRC from asking for such information.

Why it matters

Understanding and applying the rules properly can prevent significant issues arising down the line.

Taxpayers who are in dispute with HMRC will do well to provide HMRC quickly, openly and efficiently with what they require, to progress a dispute to resolution. But those taxpayers will also want their advisors to be firm in resisting disclosure of unnecessary information, or material which HMRC cannot lawfully requested.

Conversely HMRC may insist, particularly in litigation on not disclosing material which it says is privileged and which might assist a taxpayer's case.

Due to the nature and operation of both heads of privilege, taxpayers and tax advisors should consider carefully, particularly in complex disputes:

  • whether past or present circumstances necessitate the giving and receiving of honest advice safe in the knowledge that that advice cannot later be used by HMRC against the taxpayer;
  • whether a lawyer should be involved to ensure that there is no doubt over whether material is privileged; and
  • whether it is worth, particularly prior to substantively advising in an enquiry, putting in place a communication protocol that identifies all clients, and sets out how communications with third parties are to be handled, in order to avoid the pitfalls of losing privilege on those communications by accident. 

More on this below under the heading 'The key issues and pitfalls'.

When it matters

In tax, privilege will broadly be relevant throughout: 

  • when tax advice is given;
  • when HMRC has opened an enquiry and is requesting information; and
  • in litigation before the courts and tax tribunals.

Clients, tax advisors and lawyers are well advised to keep some common pitfalls in mind at each stage.

The key issues and pitfalls

  • Legal advice privilege will not apply to advice given by a tax advisor according to the Supreme Court in Prudential v HMRC.

For LAP to apply advice must be given by, or sought from, a Lawyer.

However, in the context of information notices only, paragraph 25 of Schedule 36 FA 2013 provides that a tax adviser cannot be required to produce documents that are his or her property, and which consist of ‘relevant communications’. Relevant communications are those with the taxpayer client made for the purpose of giving (by the tax adviser) or obtaining (by the client) advice on that client’s tax affairs. This affords some protection but note that this only limits HMRC's powers to obtain information under its information powers. It does not stop HMRC from applying for disclosure in Court or the First-tier Tribunal.

  • Unless litigation privilege applies, be particularly wary of the pitfalls of communicating with third parties (i.e. those who are not the lawyer or their client).

In Director of the Serious Fraud Office v Eurasian Natural Resources Corpn Ltd, the Court of Appeal stated the view that previous case law had decided that communications from ‘agents of the client’ would not attract privilege but that communications from ‘mere intermediaries’ would do so. So where a person acts as an active agent of the client communications from them would not be privileged. Therefore, communications by a tax advisor to a client or lawyer, which contain the tax advisor's views on the matter are not subject to privilege, subject to one caveat. Case law suggest that such communications could be covered if they evidence the substance of the actual underlying privileged advice (Three Rivers District Council and Others (No 5) at [19]). The Court of Appeal more recently in R (on the application of Jet2.com Ltd did not repeat that formulation but did recognise that any communication passing on, considering, or applying advice covered by LAP internally is also covered by LAP.

  • Be wary of composite communications where litigation privilege does not apply. 

Real issues can arise in composite communications. Thus, emails may often include lawyers, but also other individuals involved in a matter. The Court of Appeal gave some guidance on this in R (on the application of Jet2.com Ltd. In summary:

- Lawyer's response

A response from a lawyer, if it contains legal advice, will almost certainly be privileged, even if it is copied to more than one addressee. Again, whilst a dominant purpose test applies (i.e. legal advice must be the dominant purpose of the communication), given the wide scope of ‘legal advice’ (what the law is and what should be done about it) and ‘continuum of communications’ (in applying/determining privilege there is no need to adopt a nit-picking approach), the court will be extremely reluctant to engage in the exercise of determining whether, in respect of a specific document or communication, the dominant purpose was the provision of legal (rather than non-legal, financial) advice.

- Email from client to lawyer and others.

Meanwhile, communication from the client to the lawyer and others would be treated differently. In case of multi-addressee communications, each communication to each recipient should be considered as separate bilateral communication between the sender and each recipient, and not as a whole. Lord Justice Hickinbottom has stated that:

‘[T]here is some benefit in [considering] whether, if the email were sent to the lawyer alone, it would have been privileged. If no, then the question of whether any of the other emails are privileged hardly arises. If yes, then the question arises as to whether any of the emails to the non-lawyers are privileged, because (e.g.) its dominant purpose is to obtain instructions or disseminate legal advice.'

- Meetings with lawyers and others.

The mere presence of a lawyer at a meeting, perhaps only on the off-chance that his or her legal input might be required, is insufficient to render the whole meeting the subject of LAP.

  • As a result of the above, legal advice given by a non-lawyer is unlikely to be covered by privilege before or during an enquiry, disclosure, or when clearance is sought from HMRC.

- Tax advisors' advice not covered.

As we have already indicated, the Supreme Court has decided that LAP does not cover tax advisor-client communications.

But as we have noted, paragraph 24 of Schedule 36 FA 2008 provides that an auditor cannot be required to provide information held in connection with the performance of carrying out a statutory audit or to produce documents that are his property and that were created in the course of carrying out a statutory audit.

Equally, paragraph 25 provides that a tax adviser cannot be required to produce documents that are his or her property, and which consist of ‘relevant communications’. Relevant communications are those with the taxpayer client made for the purpose of giving (by the tax adviser) or obtaining (by the client) advice on that client’s tax affairs.

But: there are practical limitations under paragraph 26 on the protection offered by paragraph 24 and paragraph 25. Working papers, and documents showing how a particular entry on a return or in particular accounts was arrived at, are not covered. Information which could tell HMRC the address or identity of a client or the identity of a previous adviser also falls outside the protection of paragraphs 24 and 25.

- Litigation privilege rarely applies prior to a tribunal appeal being made.

Litigation privilege can only cover communications made prior to the preparation and making of an appeal in the rarest cases.

Thus litigation privilege only applies when, at the time of the communication, litigation is already live or in reasonable contemplation (or be ‘anticipated’, ‘pending’, ‘apprehended’ or ’threatened’). A ‘mere possibility’ of litigation or ‘a distinct possibility that sooner or later someone might make a claim’ or ’a general apprehension of future litigation’ is not enough. However, a ‘real likelihood’ of litigation is enough in counterpoint to ‘a mere possibility’ and there does not, for example, need to be a greater than 50% chance of litigation. Therefore, at the point HMRC amends a return, opens an enquiry, or even reaches the end of an enquiry process, litigation will rarely be anticipated unless it is very clear for example that opinions are sharply divergent, or a lot of money, and complex issues and principles of law are at stake.

- When LP Applies

If litigation privilege applies, it does provide wider but not unlimited protection. If LP does apply, it is capable of covering certain tax advisor/ and client/tax advisor communications as follows: 

  1. As a third party communication. LP covers communications between parties to a dispute (HMRC or the taxpayer). It also covers communication between lawyers and third parties, and also covers other documents created for, or on behalf of, the client or their lawyer, provided it is for the dominant purpose of ongoing or contemplated litigation. So many communications between lawyers, clients and third parties will be covered so long as a lawyer is involved.
  2. Under Schedule 36 FA 2008. Although this is not privilege but a limited statutory analog, paragraph 19(1)(a) of Schedule 36 FA 2008 protects information and documents ‘relating to the conduct of any pending appeal relating to tax’ from disclosure under service of an information notice. This only covers documents that are brought into existence for the purposes of the preparation and presentation of the appeal. Notably, this statutory exemption only restricts HMRC's ability to use their information powers under Schedule 36. It does not prevent HMRC from seeking disclosure through the Tribunal.
  3. Perhaps, litigation privilege applies to tax advisors. There is uncertainty over whether advice which is given by a tax advisor is covered by litigation privilege in all circumstances where it would be covered had a lawyer been involved. In Prince Jefri Bolkiah v KPMG it was conceded by KPMG that an accountant who provides litigation support services of the kind which they provided to Prince Jefri must be treated for present purposes in the same way as a solicitor, and the Court did not appear to quarrel with that. That is, however, in the authors’ view, scant authority for any proposition that a tax advisor has the same status as a lawyer in this context. In that case in particular, both lawyers and accountants providing litigation services were involved and the matter was not really in issue. The issue was touched on, but not definitively resolved in the Tax Chamber of the Upper Tribunal (UT) in HMRC v Muhammed Katib. In this case, the parties made submissions on the basis that LP existed in a case where there was no LAP since the advice was not given by a lawyer. The UT acknowledged that there ‘might’ be LP. In FTT appeals, where accountants may effectively act in the same way as a solicitor with conduct of the litigation, or a barrister performing the advocacy, and legislation or delegated legislation provides for this, as a matter of policy it would make sense to accord communications between a client and an accountant the same treatment as communications between lawyers and accountants with their clients. That could be countered by saying that Schedule 36 FA 2008 shows a Parliamentary intention to only afford limited protection to non-lawyers in paragraph 19. However, it is reasonable to suggest that if HMRC were to make a disclosure application in the FTT, it should not benefit from the fact that, in the less formal setting of those proceedings, the taxpayer is not advised by a lawyer. The issue remains to be debated
  • Be wary of collateral waiver of privilege.

This is a topic worthy of separate expansion but one of the dangers of to be wary of is that where a party waives privilege in one document, and deploys that material in proceedings, the party also loses the right to assert privilege in relation to other material relating to the same subject matter. In PCP Capital Partners LLP and Another v Barclays Bank plc, the High Court was asked to determine whether there had been a waiver of privilege in circumstances where a witness statement made references to legal advice. Waksman J commented as to the situations in which there is not a waiver of privilege (at [48] to [50]):

"As to the question of waiver itself, it is not easy to find a succinct and clear definition of when it arises, going beyond general statements to the effect, for example, that the party alleged to have waived them has deployed them in some way as part of its case. But on any view in my judgment, first, the reference to the legal advice must be sufficient (a point I return to below) and second, the party waiving must be relying on that reference in some way to support or advance his case on an issue that the court has to decide.

I give two examples of what is clearly not waiver. First, a purely narrative reference to the giving of legal advice does not constitute waiver. This is because, on any view, there is no reliance upon it in relation to an issue in the case. Nor does a mere reference to the fact of legal advice along these lines, “My solicitor gave me detailed advice. The following day I entered into the contract”. That is not waiver, however tempting it may be to say that what is really being said is “I entered into the contract as a result of that legal advice”. The corresponding point is that if that latter expression is used, then there will be waiver.

I next turn to the vexed question which still confounds the law of privilege, namely the idea that, quite apart from reliance, waiver cannot arise if the reference is to the “effect” of the legal advice as opposed to its “contents”. The judicial disquiet to which this distinction has given rise is well-summarised in Passmore on Privilege 4th Edition, at paragraphs 7-224 to 7-242."

At para 60, after a careful review of the case law, the judge concluded that the correct approach to determining whether there has been a waiver is:

‘… to deal with matters of principle, in my judgment the correct approach to applying the content/effect distinction is this: the application of the content/effect distinction, as a means of determining whether there has been a waiver or not, cannot be applied mechanistically. Its application has to be viewed and made through the prism of (a) whether there is any reliance on the privileged material adverted to; (b) what the purpose of that reliance is; and (c) the particular context of the case in question. This is an acutely fact-sensitive exercise. To be clear, this means that in a particular case, the fact that only the conclusion of the legal advice referred to is stated as opposed to the detail of the contents may not prevent there being a waiver.

This is a tricky and unsettled area of the law which can lead to unpredictable results and the guidance by this Court should be kept in mind when referring to privileged or potentially privileged material.

Practical Conclusion

These rules, and others, mean that it may be advisable to consider whether it would help a client to involve tax lawyers who specialise in disputes and litigation in complex cases.

This will be particularly important in cases where the taxpayer may want frank advice, safe in the knowledge that HMRC cannot simply win at a later stage by getting hold of that advice. Doing so at an early stage and throughout is good practice in such disputes, and may ultimately prevent expensive mistakes, or unwanted disclosure of frank (but possibly incomplete) advice down the line.

Again, even if a lawyer is involved, advisors and clients will do well to keep in mind the rules concerning legal advice privilege and third-party communications, and may wish to put in place a protocol in particularly complex and sensitive cases.

The authors, George Gillham and Christopher Kientzler regularly act in and advise on complex tax disputes and litigation. For more information on Fieldfisher's HMRC disputes expertise, contact a member of our team. The team is composed of solicitors and barristers and encompasses litigation, advocacy, and mediation as well as tax investigations expertise.

For more detail on these and other issues, readers may find it useful to refer to the Bloomsbury Professional title 'Law and Regulation of Tax Professionals' recently published in both paper and electronic form.

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