Scottish Court of Session Decisions

"HARRODS GROUP

As you are aware, the accounts of the group companies are open for the two years to 31 January 1999.

This letter is to inform you that I propose to carry out an in depth review of the group's tax affairs for those years. The review will be carried out on Combined Casework (CCW) lines and will involve other Inland Revenue agencies including the Special Compliance Office. The review will also extent [sic: mistakes in subsequent quotations can be assumed to be reproduced from the original] to related matters such as Cylena SA.

I would like to meet with you before initiating enquiries to discuss the implications and scope of the review. Will you please give me a ring to make the necessary arrangements. I would also be happy to meet with any other senior executives who need to be involved and with the group's professional advisors and you may care to inform all such parties of the content of this letter as a matter of urgency."

"THE AL FAYED FAMILY

I refer to our meeting on 02 June 2000.

I am advised that the letter of agreement dated 28 April 2000 is not enforceable because it is ultra vires. The agreement takes no account of the possibility of there being a false factual basis for the contract. Also it does not allow for any changes in the facts or circumstances for any unexpired years or for changes in future legislation. I should also make it plain the agreement is ultra vires because it does not reflect as it should the performance by the Revenue of its statutory duties and care and management powers to assess and collect tax. Accordingly, the letter dated 7 March 2000 can be disregarded in respect of its reference to the suspension of the agreement. The agreement is not and never has been binding in law.

In view of the history of the arrangements the Inland Revenue do not believe that it would be appropriate to re-open the back years in respect of liability to income tax and capital gains tax on foreign source income and capital gains prior to 5 April 2000. Accordingly, in this connection I would be grateful if you could arrange for your client to forward to me a cheque for £240,000 made payable to Inland Revenue in respect of the year to 5 April 2000.

For the years from 6 April 2000 onwards Tax Returns will have to be completed in accordance with the family's statutory responsibilities, and without reference to the agreement.

The Revenue will also be looking to verify the position as set out in the KPMG benefits report of 1996. This will entail a detailed examination of the mechanism by which all benefits are identified, quantified and recharged. To do this I propose to review in depth the 1999 Tax Returns and appropriate notices of enquiry will be sent by separate letter.

Furthermore, in the light of matters raised in the recent Hamilton libel case, the Revenue does not consider it has a sufficiently full picture of the Fayed Family circumstances and does not consider it would be discharging its duties appropriately unless it sought to satisfy itself concerning any other liabilities. Accordingly there will be a need to review the Fayed Family position and that of any individual, companies or organisations connected with them. To do this I shall need a comprehensive list of Family members including their respective names, addresses and ages and a list of all the companies, charities and trusts associated to them.

This enquiry work will be undertaken by Special Compliance Office under Code of Practice 8, a copy of which is enclosed and should be brought to your clients attention. I also enclose Inland Revenue Leaflet IR 120."

(1) Events leading to the 1985 forward tax agreement.

(2) Events leading to the 1990 forward tax agreement.

(3) Events leading to the 1997 forward tax agreement.

(4) Events between the 1997 agreement and August 1999.

"that the funds transferred during the years 1980 to 1984 by our bank to your account with Midland Bank plc, 72 Park Lane, London W1 originated from your capital account 'Fayed Bros', ref. FBS 4454 in our books".

Attached are copies of statements prepared by Midland Bank plc showing details of payments received from abroad into an account held in the name of Mohamed Fayed during the six years ended 5^th April, 1985....

The Al-Fayed's confirm that substantial personal remittances of the funds from abroad to the U.K. have been channelled solely through the account with Midland Bank plc in the name of Mohamed Fayed.

The Al-Fayeds also confirm that the only personal assets owned by them in the U.K. are personal chattels such as furnishings, clothes, jewellery and motor cars."

"In consideration of your agreeing to accept the same from Mohamed Al Fayed of 60 Park Lane, London W1 in respect of the duties set out in the statement below which are alleged by the Inland Revenue to be unpaid by reason wholly or in part of his default or in respect of the penalties and interest to which he may thereby have become liable under the Taxes Acts we are authorised on his behalf hereby to offer in respect of the said duties, penalties and interest the sum of £637,500 for which a cheque is attached."

"This would therefore confine the awareness of the Al Fayed family to within one district. He intended to provide barely essential details to LP8 who would not be aware of all the facts surrounding the deal covering the earlier years."

"I can give a clear assurance that access to information relating to negotiations and any settlement that may be reached will be restricted to a very limited number of individuals within the Inland Revenue".

"2. Following recent discussions between representatives of our clients and officers of the Inland Revenue, we are authorised to offer that payment of the sum of £200,000 will be made in respect of each of the fiscal years ended 5^th April 1992 to 1997 inclusive in full and final settlement of income tax or capital gains tax to which they become liable by reason of remittances, or of constructive remittances, to the United Kingdom of funds from outside the United Kingdom which may be assessable on them personally either singularly or jointly:

"3. The payment in paragraph 2 above will also cover any assessment to tax in respect of emoluments chargeable to income tax under Schedule E by virtue of Section 154 ICTA 1988 where it can be shown that the provision of services or supplies etc. was habitually provided to our clients prior to 6^th April 1990. This is on the understanding that the cost of services or supplies etc. was then reimbursed to the company providing the particular services or supplies, if that was the practice prior to 6^th April 1990, and continues to be reimbursed."

"4. It is agreed that no assessment to tax in respect of emoluments which might be regarded as chargeable to income tax by virtue of sections 145 and 146 ICTA 1988 will be raised in respect of fiscal years ended prior to 6^th April 1991. Thereafter the Inland Revenue may not pursue an appeal before the Commissioners against an assessment of emoluments under sections 145 and 146 against our clients unless and until a decision is reached by the Appeal Commissioners.... in favour of the Inland Revenue in another case involving similar circumstances....".

"9. Our clients will complete income tax returns for the fiscal years ended 5^th April 1992 to 1997 inclusive. The sections requiring details of income/gains assessable under the legislation referred to in paragraphs 2, 3 and 4 above will be completed 'as per agreement dated 28 September 1990'. All other sections will be completed as required and any such income and capital gains will be assessable in the normal way."

"11. It is understood that during the year ended 5^th April 1997 discussions will be held with an officer of the Inland Revenue for the purpose of negotiating a continuation for a further six years on such terms as are then appropriate in respect of remittances for fiscal years ending after 5^th April 1997. Such revised terms shall take account of the provisions of this letter, and any subsequent changes to existing taxation legislation enacted by future Finance Acts."

"I have no wish to enter into a sterile debate with your office about the enquiry which was conducted in 1990. It is, however, essential that Glasgow 1 is kept fully informed of any matters being pursued by you which may have a bearing on the liabilities of any companies dealt with by Glasgow 1...

There are 2 aspects of the settlement about which I am concerned.

In his memo of 21 July Mr Keeping said 'I regret I am unable to provide any detailed information from my papers concerning matters disclosed during the enquiry carried out by this office.' While I recognise that you will hold sensitive information, I would emphasise that I do expect that I will be provided with any information which is relevant to my enquiries.

I would therefore ask that you let me have your comments on these matters. As you will no doubt appreciate I am dissatisfied that Glasgow 1 was not (apparently) kept informed of matters which had a bearing on the liabilities of one of its companies. There has been considerable debate recently about the desirability of whole or co-ordinated case-working. It would seem that this is an example of the problems which can arise when such a course is not followed."

"The tenor of your replies to Mr Walker's enquiries lays emphasis on the highly sensitive nature of your contacts with the Al-Fayeds or their representatives and the fact that the information obtained by you was highly confidential. It is quite clear that you are most reluctant to allow the information obtained to be passed on to the district responsible for the examination of the taxation affairs of the companies employing the Al-Fayeds. Indeed it would appear that you may well have given a guarantee that this information would not be passed on. Is this in fact the case? If it is, then I share Mr Walker's puzzlement on this point since the District Inspector of the district dealing with these companies will obviously have signed a declaration of secrecy and therefore there is no possibility of any information obtained by him which relates to the affairs of the principal directors of the companies being dealt with being passed on to any outside source. It might be helpful therefore if you were to explain more fully the reason for Enquiry Branch providing the taxpayers and/or their agents with this guarantee of confidentiality."

"All of the above suggests very substantial amounts of money being available to the Fayeds on an ongoing basis. This information also points to the need for a detailed examination of their personal financial capacity to fund these expenses. Can you give me a specific assurance that Special Compliance Office has fully investigated the Fayeds' capacity to fund all such expenditure and additionally all other expenditure which they could be expected to meet?

On the basis that your ongoing supervision of the Fayeds' benefits goes beyond mere supervision of the benefits and is concerned with their financial ability to fund their private expenditure ... may I take it that you accept full responsibility for ensuring that any deficiencies in the Fayeds' personal income tax position are dealt with?"

"During the conversation McGregor made it clear to Keating [sic] that he was not particularly happy with the arrangement which had been entered into whereby the district was not being supplied with full details of the settlement. He accepted that if on the Revenue side a commitment had been given that certain expenditure would be allowed, then the district was fettered from breaching that agreement but he was unhappy that full information was not being supplied in relation to the terms of the agreement entered into.

For his part Keating emphasised that at the time that the agreement was made the whole question of the Al-Fayeds' personal position was very high profile and indeed less than ten people including members of the Special Compliance Office and the Solicitors Office had had access to the detailed discussions. These discussions had been attended at the final meeting by the Controller of the Special Compliance Office.

McGregor said his immediate concern was to ensure that someone was accepting full responsibility for the compliance of the Al-Fayeds in relation to their personal taxation position. Keating confirmed that Special Compliance Office accepted this responsibility."

"I mentioned to you yesterday that there have been over the years a number of cases in SCO where settlements have been arrived at which include arrangements for future years. The taxpayers involved are normally wealthy, often prominent or sensitive foreigners, who are resident but not domiciled in this country. They are thus, in addition to their UK sources of income, liable to tax on remittances of income or chargeable gains from abroad - but not remittances of capital.

To avoid annual examination by the Revenue of their world-wide financial affairs, to avoid distortion of their already complicated financial arrangements and to save expensive professional fees they have been willing to enter into agreements to pay large round sum annual amounts (£100K-£200K) as an approximation of their annual liability on any remitted income (without the need to precisely quantify that, if any).

In at least one case the Board was closely involved in setting up these arrangements and the Letter of Acceptance of the offer was signed by John Isaac [a member of the Board at the time]. The advantage to the Revenue was that under these arrangements the Exchequer was getting large amounts of money whereas in their absence

The arrangements have generally worked without problems but some are now coming up for renewal (some have built in the prospect of a 5 year review, others are to run indefinitely 'except for a significant change in our clients' circumstances').

The question which arises is are there arrangements still deemed acceptable in the age of Self Assessment, Taxpayers Charter, Codes of Practice and the Adjudicator? It is a difficult question to answer and my first response which I put to Roger White (KPMG) and Peter Whiteman (Counsel) in one case [that of the Fayeds] was that they were not.

However having seen 2 more cases and recognising the difficulties of

I am now inclined to the view that

I should be grateful for your views on this question and enclose some papers which will give a flavour of the cases I have referred to."

"On reflection, I think I am a little more relaxed than you are although I understand your concern. The basic position is clear, I think. Certain taxpayers resident but not domiciled in the UK have such significant capital abroad that, with careful advice, they could and would so arrange their affairs that only capital was omitted [sic: "remitted" must be meant] to the UK to sustain them and their dependants in the life-style they are accustomed to. We could audit that process, at a cost, but with very uncertain chances (if any) of successful challenge. To minimise cost and inconvenience all round arrangements have been made for the equivalent of annual voluntary settlements in lieu of specifically unquantified but estimated liability.

I, myself, see no difficulty in that, now or under self-assessment. Under SA [self-assessment] I assume that these people would not get a return anyway. If they did we would presumably work on the basis that we had predetermined their annual taxable 'income' for a period of years and that would feature in the return.

The difficulty I have is that not all the forward contracts seem to be on the same basis (indefinite, five years reviewable, change of circumstances trigger etc).

Unless Mr Cleave [the Solicitor to the Board of Inland Revenue] sees any problems I have overlooked, my inclination is that we should not seek to overturn existing agreements although we should be prepared to review and re-negotiate as appropriate. For new cases in the future, if there are any, I think we should probe the circumstances to establish resident but not domiciled status, continue to probe and make some judgement on, as you do, the level of risk we are looking at and the prospects for successful challenge and then negotiate a settlement as appropriate. I do not think any new agreements should be open-ended but should be subject to review in the light of a change of circumstances or of the law and, in any event, at regular intervals. Five years seems to be the norm established and I would not dissent from that."

"THE SHOPKEEPERS

Generally you can go ahead and negotiate another 5 year contract provided that it is not open ended and it fulfils what the Revenue thinks is reasonable in all the circumstances.

You are entitled to review any particular matters you believe should be reviewed before the contract is signed up."

"The main problem is going to be identifying any potential current areas of concern without involving the local district. The CT [corporation tax] district [i.e. Glasgow Cavendish] has been very concerned at the lack of information that has been passed to them and any approach now is likely to stir up all the old issues.

I propose writing to KPMG asking for a further report to be prepared of the current position on all potential liabilities that would be covered by an offer, with the report supported by documentation evidencing what is being said. Once that is received we can then decide whether to look at the CT file or invite comment on areas of concern."

"We are in the business, after all, of collecting tax. So if an investigator was consistently producing settlements which produced no additional liability, then we might start to question whether that investigator's judgment in selecting a case was well-founded. It may also reflect on the group leader, because the group leader would have to sign it off."

"The question of resources is something a Group Leader has to consider when approving every registration. He not only has to consider the resources available from the individual investigator but also the wider impact on the whole Group."

"When SCO put someone's case on [sc. on SCO's computer system] as a review, it is with the intention of developing that review into an investigation. That does not mean that SCO, by putting the case on as a review, is committed come hell or high water to an investigation. An investigation can only proceed on a proper evaluation of the risks after having done proper research and thoroughly considered all the papers that we have.

...

In SCO we will pick up bits and pieces of information from a variety of sources, which in themselves are not conclusive evidence of avoidance or evasion, but as soon as that piece of information is received, if the investigator considers that it may develop into an investigation, then he is obliged to put the case on as a review. He will then continue to enquire, research, to do third party work, to build up the picture, so as to arrive at a properly evaluated assessment of the risk. If the investigator considers the risk is of a sufficiently high standard to warrant the involvement of SCO, he will prepare a registration report and ask me to approve it. If I approve it, that then is converted into an investigation."

"1. Mohamed Al-Fayed, Ali, Salah and Emad Fayed will be treated by the Inland Revenue as not domiciled for all Years of Assessment covered by this Agreement. Only Mohamed Al-Fayed of our clients is currently regarded by the Inland Revenue as resident and ordinarily resident in the United Kingdom for tax purposes, but this letter covers the position for each of them over the period referred to below."

"2. Following recent discussions between representatives of our clients and Officers of the Inland Revenue, we are authorised to offer the payment of the sum of £240,000 in respect of each of the Years of Assessment ended 5^th April, 1998 to 2003 inclusive in full and final settlement of income tax or capital gains tax (and interest and penalties thereon) to which they become liable by reason of the receipt of foreign source income or capital gains including remittances, or constructive remittances, to the United Kingdom of funds or other assets from outside the United Kingdom which are assessable or may be assessable on them personally either singularly or jointly and in particular but without prejudice to the generality of the foregoing which are assessable or may be assessable:

a. under Case IV, V or VI of Schedule D ....

b. under Case III of Schedule E ....

"3 The payment in paragraph 2 above will also cover any assessment to tax in respect of emoluments chargeable to income tax under Schedule E by virtue of Section 154 ICTA 1988 where it can be shown that the provision of services or supplies etc, was habitually provided to our clients prior to 6^th April, 1990. This is on the understanding that the cost of services or supplies etc., was then reimbursed to the company providing the particular services or supplies, if that was the practice prior to 6^th April, 1990, and continues to be reimbursed."

"4. It is agreed that the Inland Revenue may not pursue an appeal before the Commissioners against an assessment of emoluments under Sections 145 and 146 ICTA 1988 against our clients unless and until a decision is reached by the Appeal Commissioners in favour of the Inland Revenue in another case involving similar circumstances...".

".... the Commissioners of Inland Revenue shall be at liberty to treat this Agreement as repudiated by our clients, in which event such assessments may be made on them and such other proceedings brought against them as may be necessary to recover duties, interest and penalties thought to be outstanding. Save as aforesaid this Agreement shall be irrevocable."

"9. Our clients will complete Tax Returns for the Years of Assessment ended 5^th April, 1998 to 2003 inclusive as follows. The sections of the Tax Returns requiring details of foreign source income and capital gains, including the legislation referred to in paragraph 2 above, will be completed 'as per the Agreement dated 28 April 1997'. All other sections of such Tax Returns referring to income and capital gains not covered by this Agreement will be completed as required and any such income and capital gains not covered by this Agreement will be assessable in the normal way."

"10. By accepting the terms of this Agreement, the Commissioners of Inland Revenue accept for all Years of Assessment referred to in paragraph 2 above that Mohamed Al-Fayed shall be treated as resident but not domiciled for all United Kingdom taxation purposes, including all Double Taxation Agreements to which the United Kingdom is a signatory and inheritance tax. The same treatment will apply to any other of our clients who is resident in the United Kingdom in any Year of Assessment. Subject to paragraphs 7 and 8 above [which dealt with default in payment of tax], the only other circumstances which would arise to vary or terminate this Agreement would be the death of either Mohamed Al-Fayed or Ali Fayed or the departure of Mohamed Al-Fayed from the United Kingdom so that he thereafter ceased to be resident in the United Kingdom. Mohamed Al-Fayed accepts that until he gives notice of departure under this Agreement, he is considered to be resident and ordinarily resident in the United Kingdom."

"12. It is understood that during the year ended 5^th April, 2003 discussions will be held with an Officer of the Inland Revenue for the purpose of negotiating a continuation of this Agreement for a further six years on such terms as are then appropriate in respect of foreign source income and capital gains including remittances for Years of Assessment ending after 5^th April, 2003. Such revised terms shall take account of the provisions of this Agreement and any subsequent changes to existing taxation legislation enacted by future Finance Acts."

"Between 1987 and 1989 I made a number of payments in cash or in Harrods gift vouchers directly to Mr Hamilton when he visited me either at Harrods or at my London residence at 60 Park Lane. I should first explain that for many years I have always had readily available fairly substantial sums of cash. I have always preferred cash as a method of settling bills rather than cheques or credit cards. From time to time, I arrange for one of my staff to go to the Midland Bank in Park Lane where my personal accounts are held to draw cash against a personal cheque from me. This cash is always presented by the Bank in bundles of £50 notes. Prior to the new £50 note coming into circulation, the bundles were of £2,500 each. Once the new smaller £50 note came into circulation recently, the bundles increased to £5,000 each.

I therefore had easy access to cash during 1987, 1988 and 1989 without my needing to arrange for it to be specially drawn."

"I am part of Mr Al Fayed's team which works from 60 Park Lane and I think you may appreciate that because of the nature of Mr Al Fayed being an international businessman, we would have a shift system because a lot of his work was being done in other parts of the world, so it was not a normal office inasmuch one could work from nine until ten in the evening, so there would be a shift system, although I would tend to work during the day and there would be another secretary who would work in the evening."

"It [i.e. the UK] is my country now.... I say this is my country, I have lived here for 30 years, I have four British kids. I sacrificed 30 years of my life for this country in the business of construction before having the House of Fraser."

"In 1994/95 there was some correspondence between my predecessor and Mr Monk concerning a settlement reached by your office with the Fayed family [see paras.69-73]. We were never given any details of the terms of this and in consequence it was difficult to challenge or enquire into the basis on which personal expenses on security etc of the Fayeds was claimed as management expenses by the Harrods Holdings Company (now called Harrods Holdings plc). In his memo of 13 February 1995 Mr Monk said that the personal affairs of the directors would continue to be the responsibility of your office until 5 April 1997.

This is an area that I would potentially wish to research. The profit and loss to January 1996 included £1.8m on salaries and £0.2m on travel and accommodation, much of which I suspect relates to personal security. However I do need to be clear as to where we stand in terms of your own involvement and any agreement reached after your previous enquiries. I should be grateful therefore if you would let me know where we stand particularly as regards the January 1997 computations expected shortly. If for example you are to propose to follow up on your earlier enquiries then ideally I would like some involvement and co-ordination with this office. If on the other hand you have no objection to this office tackling the issue from a certain date then that would be helpful.

Please feel free to discuss over the phone."

(5) Events from August 1999 to the issue of the letters of 31 May and 2 June 2000

"The ultimate parent undertaking is Alfayed Investment and Trust PVT LP, a partnership based in Bermuda. All interests in the Partnership continue to be under the control and held for the benefit of the Fayed family, the ultimate controlling party."

"At 31 August 1999 the ultimate parent undertaking of Liberty Publishing and Media Limited was Liberty Holdings Limited, a company incorporated in Jersey, which is owned and controlled by M. Al Fayed, the ultimate controlling party."

"How divisible the activities of the Company are from those of M Al Fayed is of course a central point to the consideration of the Group's affairs. If we bothered to challenge this charge, we will be faced with the argument that the expenditure was a valid management expense of the Company as the Group or Group Companies was the focus of any challenge, investigation etc., that M Al Fayed was not involved or, if he was involved, then as he is so inextricably involved with 'Harrods' that it is valid for the Group to protect itself from any possible detriment arising from any investigating authority's findings.

Unless we are to open the personal side in a Group context, we should either ask for details of what underlies the charge or simply accept it without enquiry."

"If we take M Al Fayed out of the equation, these accounts and computations should be accepted with little or no enquiry. We are at the stage where we have to decide whether to attempt to enquire into M Al Fayed's personal affairs. As far as these 1998 accounts are concerned, the P/L [profit and loss account] entries offering any scope for any 'personal' charges are those in relation to salaries and legal costs but we would really need to obtain the information held by SCO before making - or even deciding whether to make - any (Group-wide) enquiries in this field. As far as the SCO involvement is concerned, I refer you to the correspondence in the 1993 and 1994 accounts pads of the Company (when it was called Harrods Investments plc). It is entirely possible that the type of expenditure charged - and the Group companies in which (any) such expenditure is charged - has changed over the years. I think it would be rather foolish of us to make any enquiries of the Tax Manager before at least contacting SCO and if the attitude of SCO towards District involvement in this aspect of the affairs of the Group/the Fayeds has not altered since the time of the correspondence in the 1993 and 1994 papers, progressing the matter on our own would prove difficult."

"Looking firstly at the M Al Fayed personal aspect, the analyses of the P/L entries indicate that the areas in which we would most likely find any personal expenditure charged (and I am assuming that the bulk of such expenditure would be in the areas of staff wages and accommodation costs) would be under 'Salaries And Wages' ..... and 'Occupancy Expenses' .... I must emphasise however that I think it unlikely that there will be any deliberate mis-claims for deductions. The agreement with SCO may still be in place - albeit that it was to cover the period, as I understand it, to 5 April 1997 - and, as I mention in my note on Harrods Holdings plc, may be based on the premise that all/any relevant personal expenditure is to be found in that Company. This all comes back to the necessity of us obtaining details of whether the agreement with SCO is still in place and what it covers."

"The Case Director approach envisaged that the relevant LBO would call in and take over responsibility for the tax affairs of related companies. Co-ordinated (or Combined) Case-working (CCW) had also come more fully into being and was continuing to evolve. A lot of work had gone into establishing the role of the Case Director which was to include acting as 'ring master' to ensure that all areas of risk were properly addressed regardless of which Revenue agency was responsible for actually dealing with them...

As Case Director my consideration of risk would have extended to the whole of the economic entity including any associated individuals or concerns. I would not have handled any matters outwith the LBO myself but would have acted as ringmaster to ensure that the risks were properly addressed by the appropriate agencies under what is called Combined (or Co-ordinated) Case Working (CCW)."

"I am firmly of the view that to carry out a proper and meaningful risk assessment of a group such as this we must include a comprehensive review of the interaction with the individual directly controlling it. Al Fayed is a mysterious and controversial character with significant tax haven interests who seems unable or unwilling to distinguish between his corporate and personal dealings. From both previous and current evidence the group appears to meet personal expenditure and the accounts show continuing s.416 issues. There would also seem to be various business transfers (both ways) between the group and other Al Fayed entities in circumstances that are not obviously commercial."

"It is therefore important that we review Al Fayed's personal file together with those of any other parts of his UK empire not currently held in Glasgow. Until we can satisfy ourselves that everything is in order on the personal side the biggest risk is that Al Fayed might not be paying UK tax on the 'income' that he spends in the UK, most of which one must assume comes directly or indirectly from the Harrods Group. Given his lifestyle the funds available to him must be considerable and the fact that you can find no TI [Taxpayers Index: a computerised register of all taxpayers in the UK kept by the Revenue] entry for him must suggest that the risk is high.

The explanation is hopefully that his personal affairs are still being worked by SCO who reached some sort of settlement with him some years ago which was intended to look forward and to cover all years up to 1997. Although they refused to tell us anything about it at the time they did say the file would be returned to the district (wherever that is) to deal with years after 1997. I am a little concerned, however, that SCO would have no ready machinery for controlling a case themselves from year to year and the fact that despite the interaction with the group they have never approached us with any sort of query can only suggest that whatever sort of review has been made of his returns each year cannot have been very thorough.

I hope that I am wrong but I cannot help but feel that the secrecy and total lack of meaningful communication between SCO and the LBO in this case could have been seriously prejudicial to the proper and efficient working of both the group and Al Fayed's personal affairs and must itself constitute a risk that should now be addressed.

So how do we move forward? Given the present position in the group's accounting cycle, the fact that the 1999 accounts have started to arrive and the concern that we cannot do a proper job of risk assessment without access to the personal papers, I agree that we should dispose of the remaining 1998 accounts with as little fuss as possible.... In the meantime we should prepare ourselves for a full-fledged risk assessment programme on the 1999 accounts, hopefully some time around the end of the year.... The preparation will entail tracking down and obtaining the personal papers (I am drafting a note to SCO) and those of any other known UK entity, for example that owning the Scottish estate. It will also be interesting to see what comes out of the enquiries on Cylena. The transfer of various businesses out of the group to the Jersey entity in the 99 a/p [accounting period] gives further reason to look at the accounts for that period in depth."

"....I am content for you to ask about the legal fees re DTI/Lonrho. The point will probably not be finally resolved before we carry out the 99 risk assessment but any initial response may be helpful in indicating what we are up against and any suggestion that any of it was for Al Fayed's personal benefit will help to demonstrate the need to keep in touch with those dealing with his personal affairs.

.... [In relation to the director's loan] I note the S.416 question even though the advance has now been repaid.

.... I would prefer that you do not finally settle any relevant period for any company that was party to the purchase of Alpha shares from Cylena.

.... Please ask about the two £1 Special Shares and feed the answer into the 1999 risk assessment."

"In accordance with current LBO and Departmental practice this involves my reviewing the group and any associated parties to establish whether and to what extent tax may be at risk. Under Combined Case Working (CCW) it will also entail my co-ordinating the work of the LBO and any other Departmental agencies to secure that tax.

Preparatory work is about to start on the risk assessment of the accounts to 30 January 1999 and that assessment has to involve consideration of the relationship between the group and the person or persons controlling it.

In this case this aspect of the review is particularly important, not only because it would seem that the group is ultimately controlled by one individual, namely Mr Al Fayed, but also because:-

I assume that the lack of a TI reference may have something to do with the fact that SCO negotiated some form of settlement with Mr Al Fayed around 1994 which involved looking forward in some way to 1997. Correspondence between my predecessors and Geoff Monk around that time indicated, however, that the file would be returning to a District in 1997.

Can you please let me know if the file has been returned and if so, where, when and under what reference. If SCO is continuing to issue Returns and work the case then can you please let me see the file and let me have details of the nature of your continuing interest?

If there are any remaining sensitivities or complications then I would be happy to meet to discuss how they can be respected while any work is co-ordinated with the rest of my review. It goes without saying, of course, that I would wish to discuss the case with SCO anyway if that review were to suggest any possibility of wrong doing."

2. He and his compliance inspectors are running an interesting intelligence project called: 'Who owns Scotland?' It is based on Sutherland and Caithness, the area covered by Wick District.

3. The work to date shows that there is a very high number of combinations of large estates/individuals/trusts/non-resident companies. But the reason for this particular note is that Bill Lockyer has been trying, so far without success, to track down a GCD-type file for Mohamed al Fayed, whose name has surfaced in the 'Who Owns Scotland?' exercise. (Indeed, I understand Mohamed al Fayed also owns more property south of Caithness (? In Ross and Cromarty).

4. Bill Lockyer has been trying, so far unsuccessfully, to track down any GCD-type file for Mohamed al Fayed. I should imagine that Mohamed al Fayed receives the very best tax advice but, even so, given his reported attempts to secure British citizenship and what is reported about his assets in the UK, and what we know about them otherwise, I would be surprised if he does not have to file some sort of return here.

5. Given that Mohamed al Fayed must be a very high-net-worth individual indeed, I should be grateful if SCO can give Wick some help in establishing the position."

"Happy for SCO to assist Wick - I'm copying this to SCO Edinburgh. It would strike me as odd if SCO hadn't at some stage had a look over Mr Al Fayed's tax affairs, so it's possible there might be something on our database already."

"Please see attached note from Geoff Bush following his visit to Wick. I'd be a bit surprised if SCO hadn't at some stage run the slide rule over Mr Al Fayed's tax affairs. Could you arrange for someone to check whether we've reviewed or investigated him and which District is his GCD. I've told Geoff that we'll assist Wick in tracing him, so if you find anything will you please have a word with the DI [District Inspector, i.e. Mr Lockyer]. Were you aware of the 'Who Owns Scotland?' project? Anything in it for us at the top end of the cases they're likely to turn up?"

"Thanks John - Yes we know all about it. The project 'Who Owns Scotland' was inspired by an SCO Edinburgh Liaison visit in February 1999. The SCO inspectors fully briefed Bill Lockyer (ex SCO London) and his team as to how SCO would go about such an exercise. Since then Bill regularly liaises with us on the results of his enquiries. I am surprised that Bill given his previous SCO connections didn't mention to Geoff the support he has so far received.

Our involvement continues in fact our next visit is planned for 2 weeks time.

As to the specifics Al Fayed was brought to SCO Edinburgh's attention at the beginning of October 99. Central was checked and 3 hits found 1 of which was sensitive. You might want to check with Martin Whitehead about his 'SHOP' case.

Harrods Ltd is an LBO Glasgow case and discussions took place on 07 October with the case officer in Glasgow. The aim was to bring the LBO on board in a joint review of Al Fayed and Harrods. This is of course dependant on Martin confirming London's interest has been concluded."

"I....gave them advice on their project 'Who Owns Scotland'. They had the idea."

"We had some information about an estate in Scotland. We had some concerns being expressed by the LBO in Glasgow who dealt with Harrods. I concluded that, on the basis of the information about the Scottish estate, and the need for discussion with Glasgow LBO, that that was the route we should go down."

"In addition, when Dodi Fayed had been travelling around with Princess Diana, they had travelled on Harrods jets, a yacht in the Mediterranean etc and all costs had been met from Harrods, again with no benefits being declared."

"This sum of £60,000 had again been paid by Harrods - Mr Whitehead had a copy of the banker's draft in the papers he held."

"I visited Whitehead to discuss my memo of 9 August and repeated the background to my concerns.

Whitehead set out the brief history to the agreement and confirmed that this had been renewed for a further five years from 1997. He promised to let me have a copy. He advised me that there was a growing concern as to the basis on which the agreement had been reached arising in particular from the evidence that had been given in the Hamilton trial. They would like to withdraw from the agreement and the idea was then that the papers would be transferred to Edinburgh SCO to register, particularly given an interest that they have expressed in the Scottish estate.

Whitehead showed me the extent of the papers they held - a four draw press - and promised that once they had decided exactly what was happening they would be happy to liaise fully with GLBO's risk assessment. He would keep in touch."

"Mr Al Fayed, on his fifth day in the witness box, was accused by Desmond Browne, QC [counsel for Mr Hamilton] of using up to £120,000 in petty cash each week to 'lubricate' business dealings and to pay employees as a tax dodge.

Mr Browne told the court that up to £75,000 at a time was withdrawn from Mr Al Fayed's personal Midland Bank account in Park Lane up to three times a week.

Mr Browne: 'I suggest you use these enormous sums to lubricate your way through business... to ease your way with other people...'.

Mr Al Fayed: 'You talk absolute rubbish... I have big commitments, I have a big family, homes everywhere.'

Mr Browne: 'You have four children - £120,000 a week is a fairly handsome family budget.'

Mr Al Fayed: 'It is none of your bloody business, it is my business... get on with your cross-examination and don't waste the time of everybody.'"

"The apparent absence of direct denial on oath at least raised the possibility that sums of around or in excess of £6m might be in use. At first sight expenditure of that magnitude might indicate taxable receipts of a similar magnitude. In very rough terms that might equate to tax liabilities of over £2m. Whether the figure put to Mr Al Fayed was right or wrong was unclear but I was aware that the annual payment was £240,000. The possible discrepancy raised a serious question in my mind which I did not believe I could ignore."

"Miss Bozek added that no record was kept of these cash payments because they were made out of Mr Al Fayed's own personal petty cash, not out of office funds."

"Following concerns about the tax affairs of Mr Mohamed Al Fayed which were raised by one of my investigators, it was decided that we should review his affairs. Our records indicated that there was a file relating to his affairs at SCO in London. We asked for the file to be sent to my office."

"We are ready to start on the H [Harrods] risk assessment. Are you now able please to let me have the papers you promised me at our meeting."

"Whitehead telephoned to confirm my interest in the case. He said that he was e-mailing Jim Williams of Glasgow LBO and he would copy this E mail to me to keep me abreast of developments. As I should know this case was an ongoing settlement which was nearing the end of the agreement. The intention was to withdraw from the agreement enabling the whole tax liability of Al Fayed and Harrods to be reviewed with a fresh mind.

Whitehead was attempting to get a transcript of the trial which would contain considerable information of relevance to a fresh investigation.

The old settlement was based along SO [Special Office] lines and was contracted at the time the Al Fayeds were purchasing Harrods. It was now outdated and a joint exercise by LBO, SCO Codes 8 and 9 Group was necessary to bring the case up to date.

Harrods itself has financial problems in terms of its bank and has failed to live up to its expectations and financial plans. This is a feature which we should bear in mind.

Whitehead referred to two blocks of flats in Maidavale and their ownership. He thought this was an area that we should pay particular attention to.

Whitehead's intention is to tell the agents (KPMG) that 'all bets are off'. They will then see what reaction this creates. Al Fayed currently submits Tax Returns to SCO London.

Apparently Jim Williams has identified technical aspects which require LBO input which added to the estate work identified by Bill Lockyer make this case a prime candidate for being dealt with in SCO Edinburgh.

[ ]

Whitehead said that the personal issues involved in this case made it imperative that it was dealt with in SCO.

He mentioned that enormous dividends are paid offshore and that Mohammed Al Fayed is the only brother remaining R/OR [resident and ordinarily resident] in the United Kingdom. Whitehead suggested an early meeting with Jim Williams, SCO and possibly Bill Lockyer to discuss the case in its generality and as a first step towards handing responsibility over. He will therefore write to the agents, see what that brings out having first cleared this through the Deputy Director.

Whitehead mentioned [ ]. This is dealt with at [ ] and will certainly require some review.

Whitehead finished by saying that because of internal pressures it was unlikely a meeting could take place before April."

"I also referred to enormous dividends ...... There was also the question whether the dividend went straight into Harrods Bank. If there was possibly an irregular relationship between Mr Al Fayed and the Bank then that could not be ruled out. I had no specific information on the point but it was not something I could rule out at a preliminary stage ... My reference to Harrods Bank was a link to my concerns about the banker's draft."

"The question was simply whether the properties were used by the family and others. I believed them to be owned by an offshore entity. There might be a question of whether there was a Schedule E liability by virtue of receipt of benefits."

"Sorry for delay. I am awaiting a transcript of the civil action which was recently concluded in our friend's favour. His statements under oath about his petty(!) cash expenditure will allow me to rescind the agreement that has been in place for far too long. I suspect that the reaction will be to offer an increase in the amounts paid but this will be refused in favour of a more scientific approach. It would be appropriate for SCO Edinburgh to be involved as they have responsibility for liaison with your office. My DD [Deputy Director] has verbally agreed to my proposed course of action and I will copy my letter bringing the agreement to an end to you. I feel the response to that letter will dictate our next step. It may be that the other side are already considering our friend's position as they presumably followed the case in the press. Stranger things have happened."

"Explained and averred that, by 11^th January 2000, the respondents wish to terminate the 1997 forward tax agreement."

"Thank you. I am still concerned about the extent to which the existing agreement may impinge on matters that could arise on our risk assessment of the accounts to January 99. For example on benefits and entertaining as well as on the fundamental question of whether the profits of H [Harrods] do indeed belong offshore or whether they find their way more directly into the control of our friend (what does he claim to live on by the way?). Can you please therefore let me have a copy of the agreement so that I can see the scope of it. Can you please also give me an opportunity to comment on the draft of any letter withdrawing from the agreement before it is issued just in case there are any implications for our wider interest. We will also need to be clear, along with SCO Edinburgh, about the proposals for any further work and who will be responsible for it. The more scientific approach you want to move to will need to take account of the corporate environment in which he operates as well as developments in the department's approach to tax risk and the working of wealthy individuals. Perhaps the interested parties should meet to determine where we go next. In the meantime, and so that we can make a start on the research, can you please let me have a copy of the large volume you showed me on my visit."

"I telephoned Williams to say that information from London was expected shortly. We agreed that a meeting would be to our mutual benefit.

Williams briefly gave me an overview of the LBO approach to risk assessment.

In this case they deal with the main corporate files and also other divested interests such as media cases.

Their task is to look at the overall picture and identify potential areas of loss of tax. In this case the central issue is the vast amount of dividends which go offshore to the parent company only to be routed back to the director. We need to establish precisely how this happens and whether there is any tax risk. Clearly to do this properly we need to see the London agreement.

Williams' main task is to ensure that all risk areas are covered by the appropriate agency. He is not interested whether this is LBO, SCO or A N Other.

We agreed to meet on Friday 11 February at 10.00am - J McGuigan to attend."

"The reference to Mr Bush stems directly from his e-mail to Mr Middleton of 18 October 1999 when he was attempting to assist Wick District trace the personal tax file for Mr Al Fayed. That is the Bush interest to which I was referring. In Mr Matheson's case, he was at the time the Board member charged with responsibility for SCO. In my view the concerns expressed by Mr Bush in his e-mail would have been relayed to Mr Matheson in view of his responsibility for SCO, and, while I continue to believe that that would have been the case, I have, in fact, no direct evidence to that effect".

"I may have embellished what I knew about the position at an internal meeting... to make sure that the LBO were aware that this was a case in which some members of the Board may take an interest."

"I am recorded as using the words 'both politically and otherwise'. Read on its own this could be taken to mean that politicians had been or were involved in the case or that there had been political intervention at some point. This is not the case. To my knowledge there has been no intervention or involvement of anyone outwith the Department of Inland Revenue".

18. The Revenue's discovery position needed to be ratified."

"I was confirming to my LBO colleagues that SCO Edinburgh would match the resources which SCO London appeared to have devoted to the case to see it satisfactorily resolved."

"The question of resources is something a Group Leader has to consider when approving every registration [sc. of an investigation: the registration of a review does not require approval]. He not only has to consider the resources available from the individual investigator but also the wider impact on the whole Group."

"It is possible that I may have made reference to political matters at this point during the meeting ... Mr Al Fayed had been known to operate at a political level and we might need to be in a position to explain what we were doing and why we were doing it."

"For the avoidance of doubt, I have not acted for political reasons."

"I was certainly not influenced in any way by any expression of Board interest. Nor was I or have I ever been influenced by any perceived political importance."

"McGuigan will also authorise the use of Section 20 powers and third party work will be done as necessary."

"As far as the use of section 20 powers are concerned, I was simply advising the LBO that, if necessary - if necessary - we would use section 20... sometimes it is sufficient just to ask. Well, we would have asked KPMG for the information that we needed and they may well have provided it. But if they did not provide it, then we would have used section 20. Section 20 is a power which - an information - gathering power which is used extensively within SCO but in very few other places within the Department and certainly not within the LBO."

"My understanding was that Mr Al Fayed had a 5 year Forward Tax Agreement which was about to come to an end. I expected that Mr Al Fayed's agents would seek to replace an old agreement with a new one increasing the amount to be paid to reflect inflation over the period. My comments were meant to indicate that an inflationary exercise would not be sanctioned and that any new deal, if a deal were to be entered into at all, would have to be founded on a full and complete understanding of Mr Al Fayed and his family's business activities."

"LBO would undertake a risk assessment as they would for any other case."

"Would you be happy to let him have a look at the papers for the Shop so he can make a start on a registration report (he needs the stock!!)."

"As discussed in our telephone conversation today [sic] I have been concerned that the agreement dated 28 April 1997 requires review, inter alia, in the light of your client's recent civil action which was well reported in the press and highlighted his ready access to extremely large sums of cash. For that reason the agreement is suspended.

As I explained the case is appropriate to my colleagues in SCO Edinburgh as they have responsibility for the Glasgow Large Business Office which deals with the majority of the UK companies that your client has an interest in.

My colleague at Edinburgh Alan Carmichael will be in touch with you in the near future. I have advised him that Tom Murray is also a contact at your office.

In the meantime I return the cheque for £240,000 which accompanied your letter."

"As discussed I attach a copy of my letter sent yesterday [sic] to KPMG.

Alan Carmichael from SCO Edinburgh is calling tomorrow to pick up further papers and he intends getting in touch with Al-Fayed's agents in the near future.

Alan is aware of the 5 main areas of concern beneficial occupation of the Surrey and Highland Estates, ready access to large sums of cash, ready access to Harrods Bankers Drafts, legal fees and the use of flats at Hyde Park Residence.

I am copying this to the Director as he asked sometime ago that I update him on what was happening in this case."

"She then talked about mistake. She said if the agreement was founded in a report which had a basic mistake then it would be unlikely the Revenue could be bound to it. This should be the line we take."

"We did not know at that time what the tax at risk was. We knew that there had been gifts to a number of employees, over a number of years. We had not formed any conclusions as to the extent to which that would give rise to taxation for anyone and, if so, what the amount would be".

"- As the agreement itself nowhere provided that it can be 'suspended' and indeed never uses the word suspension, what did Mr Whitehead intend to convey by stating 'the agreement is suspended'?

- If, on the other hand, Mr Whitehead was unilaterally purporting either to vary or terminate the agreement, what is the legal basis for any such action in light of the clear terms of the 1997 agreement which state that it is both binding and irrevocable."

"The reason given in Mr Whitehead's letter of 7 March for the purported suspension of the 1997 agreement is press reporting which 'highlighted his (Mr Mohamed Al Fayed's) ready access to extremely large sums of cash'. In the course of our meeting you referred to withdrawals of cash from a bank account which may be inconsistent with information provided to the Inland Revenue. Here there are two distinct points. Firstly, generally, we fail to understand what relevance 'withdrawals of cash' can have to a binding agreement which substitutes the payment of fixed annual amounts to the Inland Revenue in lieu of the normal tax charge based on remittances. Your explanation of why the Inland Revenue believes there is such a connection would be much appreciated. Secondly, as we discussed, I find it difficult to identify that the Inland Revenue either sought or were provided with representations concerning remittances prior to the 1997 agreement.

...

Our question in relation to this matter is:

- What are the prior representations on which the Revenue rely in support of any attempt to vary the terms of the 1997 agreement prior to its expiry in 2003?"

"You undertook to consider the Inland Revenue's response on the following matters:

"I feel that it is also appropriate for me to record another matter which I raised at the meeting.

I have been authorised by my clients to deal with any PAYE or Schedule E consequences that may have resulted from payments made by Mr Mohamed Al Fayed to employees. As I told you at the meeting, KPMG was instructed in relation to this matter prior to Mr Whitehead's letter of 7 March. In due course I would hope to be able to discuss with you how we may satisfactorily resolve this issue."

"No-one was actually sacked, Trevor had observed. They are just asked to resign, then given a pay-out after signing another confidentiality agreement."

"F had created an English country dream... gorgeous green landscapes of fields with grazing horses and flowering gardens surrounded by a massive Elizabeth mansion. F had spent millions of pounds to restore its panelled rooms, to build a huge swimming pool, instal horses, develop acres of exquisite gardens and to create what has been described as a children's dream world, for his 4 young children, with toys scooped up from the shop.

F ran his empire in all except the most bitter weather from a white plastic tent set out on the lawn and carpeted in astro turf like green carpeting. It seemed a British version of the Sheikh's desert tent but its purpose was less romantic - its isolation prevented bugging... all his other Estates were variations on the Oxted theme including the tent... through a bodyguard's eyes a different side of Oxted is revealed: a compound of 500 acres patrolled by guards. With an array of security and surveillance equipment the Estate was watertight."

"Kez's job had been largely with the younger children, the 2 boys and 2 girls he had watched grow up... Kez loved horses, both fantastic jet black stallions pull the shops carriages, with loads of feathers, and also the quiet riding horses that were available. There was even a wonderful riding instructor, but the children never rode."

"F had apartments and offices in 60 Park Lane... The complex of offices also housed F's room and the security accommodation. F's cousins and uncles stayed in apartments there when they were in town. F and his family and D's apartment were there too and all shared a common kitchen with chef and staff 'it was like having a hotel kitchen' D's valet would note..."

"2. Background

"in due course [he] would hope to be able to discuss with [Mr McGuigan] how [they might] satisfactorily resolve this issue" (see para.281).

"They [the Revenue] certainly were not awaiting a report on the PAYE payments because we had not actually had our meeting to discuss what such a report was going to look like."

"2.2 Review Work to Date

"3. ANTICIPATED INVESTIGATION

"4. RECOMMENDATION
4.1 Information:

"The circumstances of this case are extremely unusual in that we were forced into first party contact with the agent following Whitehead's letter of 8 March. This meeting took place before the formal registration of the investigation. At this meeting however it was disclosed that Pay As You Earn irregularities do exist and that settlement will be within SCO perimeters. This is notwithstanding the problematic issue as to whether or not a full enquiry can take place into earlier years or the current arrangement.

Jim [McGuigan] and I have agreed that reference 159238 [the computer file relating to Mr Al Fayed] should be registered as a Code 8 Investigation to enable continued contact with KPMG and to receive the Report which that firm will prepare in respect of Pay As You Earn irregularities."

"GROUP LEADER'S COMMENTS

In a perfect world I would have preferred to have had the benefit of a full review of the MAF papers from SCO London, Solicitors and Counsel's Opinion and a detailed examination of the recent trial transcript before deciding that the case was suitable for registration. However we cannot now afford ourselves of these luxuries because first party contact has been made via SCO London's 'suspension' letter of the 7 March 2000 and the arguments which flow from the issue and content of that letter oblige us to have the case formally registered.

As to the issues involves it seems clear that before we can determine whether the 1997 Agreement is the correct way to continue to proceed to the year 2003, bearing in mind the recent public revelations about MAF's spending habits, we will have to overcome the most robust defence of that existing Agreement by MAF and his advisers. In this clear advice and support from our own Solicitors Office will be absolutely essential.

We have on the table an offer to review the position regarding payments made to employees and we have been assured a healthy settlement is likely to result. That offer needs to be seen in the context of, perhaps, a more fundamental challenge to the taxpayer's personal tax affairs. It should not distract us from that primary objective.

I approve registration."

"In the Group Leader's comments I state that 'we cannot now afford ourselves of these luxuries because first party contact has been made via SCO London's "suspension" letter of 7 March 2000 and the arguments which flow from the issue and content of that letter oblige us to have the case formally registered'. I was saying that the disclosure flowed from the suspension letter in the sense that the meeting of 20 March 2000 was arranged to discuss the suspension but at that meeting the disclosure was made. In the light of that disclosure the case at that time was suitable for investigation in the name of Mr Al Fayed."

"In my view the suspension letter of 7 March 2000 constituted a challenge to a taxpayer. In accordance with SCO general practice the case should have been appropriately reviewed and then registered for investigation before that letter was issued. That had not happened as the letter of suspension had been sent from a review file. It is difficult to see how in any case an appropriate Code of Practice could be decided upon without a formal review being undertaken."

"Mohamed Al Fayed was registered as a Code 8 investigation on the 31 March 2000 following disclosure of Pay As You Earn irregularities within his personal household and companies closely associated to him."

"I have met with Solicitors Office who in turn are seeking counsel's opinion on the merits of the Herbert Smith Agreement (1990) and the 2 KPMG Agreements (1990 and 1997). Counsel will give his opinion no later than 10 April. I have a tentative arrangement to meet our Solicitor on 12 April.

A copy of the transcript of the Hamilton trial is now in our hands and the tedious job of reading it has started."

"What are the prior representations on which the Revenue rely in support of any attempt to vary the terms of the 1997 agreement prior to its expiry in 2003?"

"During the recent libel trial involving Mohammed Al-Fayed, things were claimed and said that throw doubt on the sufficiency of liability paid to the Revenue.

...

KPMG, their client and his lawyers are unhappy with the Revenue's attempt to overcome the permanency of the contract and have said they will take the matter to court (via a Judicial Review of our decision to suspend the Agreement) unless we withdraw our letter...

I do not know why we sent out our letter of suspension when we did but that is another matter altogether. What we now have to deal with is the urgent matter of how to take the case forward. I attach copies of the two recent letters from KPMG. They are clear as to their purpose, that is to place time pressures on us to withdraw the letter of suspension."

"We cannot deal with this case in isolation as apparently KPMG are aware of other cases involving forward agreements negotiated with officers of SCO. It would therefore be naïve to seek to break Mohammed Al-Fayed's forward agreement in isolation without assessing the efficacy of others. Otherwise, we could face an allegation that we were dealing with Mohammed Al-Fayed unfairly. Solicitor's Office agreed and we will be seeking Counsel's opinion on two unassociated forward contracts that will, for this purpose, be anonymised...

At my request Jim McGuigan has contacted KPMG to explain that we are taking their letters very seriously indeed and are seeking further advice on the matter. In a telephone call yesterday Tom Murray, the KPMG partner representing Mohammed Al-Fayed, had indicated that he will recommend to his client taking no precipitative action until mid-May. This is good news and allows us time to receive legal advice and discuss the way forward....

Diane McKenzie-Boyle asked that the Chairman be advised through your good office about the possibility that the other side may seek a listing for a Judicial Review next week. The fact of the application will be public but any detail will not appear in that arena for some weeks to come. In view of Tom Murray's comments, I doubt there will be any such listing but we cannot take that for granted.

Steps are already underway to identify the number of cases we have or have dealt with in the previous five years through forward contracts. By Friday we should know the number involved and the size of the potential problem if Counsel's opinion goes against us on the general principle that forward contracts such as those we have generated are ultra vires. However, for now I would wish to exercise caution and await further facts before reaching any conclusions."

"Consider how we investigate each entity.

Do same for [Mr Al Fayed].

Interaction between him and [companies].

Liaise with LBO.

If agreement is [ultra vires] decide what we will do immediately after meeting on [11 May]."

"While I was still awaiting the final report on the trial transcript and the clarification of our enquiry powers this statement, based on the oral reports, coincided with my developing view that there appeared to be reasons to adopt the more fundamental challenge envisaged in the registration report of 30 March 2000. But no final decision had been reached. The final notes on the Trial Transcript were not yet available and it is noted that if the forward tax agreement was ultra vires we should decide what we would do immediately after the meeting planned for 11 May 2000. That meeting was intended to discuss options in the light of clarification of our right to enquire."

"Each of these transactions could give rise to a taxable benefit on Mr Al Fayed if the benefit was not fully recharged (section 154 Income and Corporation Taxes Act 1988)".

"[T]he transcript contained information about a number of entities which might be subject to UK tax. There were indications of companies located offshore which Mr Al Fayed claimed belonged to him and the possibility that they were centrally managed and controlled in the UK was a possible tax risk in that the UK may be able to tax those companies in that situation. International businesses were identified raising additional questions in this area... Mr Al Fayed might be controlling offshore companies from the UK and his perceived character as a 'tyrannical employer' may support the view that his character is such that he may exercise control personally. The point was again one of modus operandi and not necessarily of any particular instance or instances. The indications meant that it was possible that there might be tax loss arising from non-UK companies which could be liable to UK tax but were not known to the Revenue".

"[T]here were questions of deductibility of expenses in computing liability to tax arising from, for example, legal fees, and I was concerned by the types of payments... which might be being allowed wrongly against business expenses of UK companies when they may not be genuinely allowable. The concerns were not specific to any recorded incident or time but again went to modus operandi."

"In general, the widespread use of cash in Mr Al Fayed's business dealings, while not necessarily relevant to the computations of his liabilities on remittances of past years, led me to the conclusion that there was scope for loss of tax through inadequate record keeping which is, in my experience, and from the disclosure made on 20 March 2000 an aspect of cash payments. KPMG had reported that 'given the absence of records, it was likely that reporting to IR could only be on a very "broad brush" basis' [see para.275]. This was a concern which appeared to be relevant to much of the affairs of Mr Al Fayed and those associated with or controlled by him."

"satisfied that... with the partial exception of the payment of dividends offshore and the availability of remittances to meet living expenditure the risks I had originally identified had not been satisfactorily addressed and would need to form part of the LBO's enquiries on the 1999 accounts."

"At that meeting I decided that we should check the position on re-imbursement of benefits under the agreement in respect of the tax year 1998/99 (which was then the tax year which was open under Self Assessment) and possibly subsequent years. Other risks, which had been identified through my review of the case, including the notes of the Trial transcript, such as the risks inherent in the use by Mr Al Fayed of off shore companies and trusts, also required to be decided upon. I had made no decision on these other risks pending the time when I was in a position to make a decision on benefits. I wished to address, as far as possible, all perceived areas of risk at once. Therefore on 16 May 2000 I concluded that we should proceed with the more fundamental review which I had envisaged in my Group Leader comments on the registration report.

Mr Middleton decided that he would refer issues in relation to [Mr Al Fayed's] forward tax agreement to Mr Matheson and that he would meet with Mr Matheson the next day to explain the position to him. By that stage I was satisfied that we would proceed with the more fundamental review. On or before 18 May 2000 it was confirmed to me that my senior officers were content with my decision."

"The meeting considered the way forward in this case. By the end of that meeting agreements in principle on the way forward had been reached by those acting on behalf of the Revenue. Those agreements included that the Revenue should check the benefits position in respect of 1998/99.

Mr Middleton notified Mr Matheson, a member of the Board of Inland Revenue of the decision, and Mr Matheson was content for SCO to proceed on the basis proposed."

"On 16 May 2000 I met Mr McGuigan, Mr Pegler, Mr Middleton, Mr Williams and legal advisers when it was established that I would be in a position to enquire into the 1998/99 tax return of Mr Al Fayed for the year ended 5 April 1999. I also established that I would not be in a position to enquire into remittances covered by the agreement for years to 5 April 2000. I was aware that it was likely that the investigation would proceed along these lines but my future course of action still had to be authorised.

It was not until later, on or around 17 May 2000, that I was told by Mr McGuigan that I could investigate matters other than the disclosed irregularities and that co-ordinated case-working would apply."

"As everybody who has anything to do with the law well knows, the path of the law is strewn with examples of open and shut cases which, somehow, were not; of unanswerable charges which, in the event, were completely answered; of inexplicable conduct which was fully explained; of fixed and unalterable determinations that, by discussion, suffered a change."

Al Fayed Investment Trust of Liechtenstein:- Mr Carmichael may have had in mind Alfayed Investment and Trust SA, to which the 1990 back duty settlement had referred (see para.54).

International Marine Services SA:- This company was mentioned in the trial transcript. It was said to be incorporated in Dubai and to be owned, ultimately, by the three Fayed brothers and the late Emad Al Fayed. It was said to own supply vessels used in the oil industry. A list was produced at the trial of 31 vessels belonging to the company which were said to have been sold in October 1997. It was one of the companies covered by the 1990 back duty settlement.

The Ritz Hotel Ltd:- The Ritz hotel featured in the evidence given at the trial, and Mr Al Fayed accepted in his evidence that it was controlled by his family. The SCO London papers also contained information about the company which operated the hotel, and Mr Al Fayed's interest in it, as mentioned above (at paras.17 and 28). As the London papers disclosed, the company was in fact incorporated in the UK, but paid tax to the French authorities. The company is discussed in greater detail below.

Bocardo SA:- The SCO London papers contained information about this company, as mentioned above (at paras.17, 21 and 50), concerned inter alia with the question whether it should be regarded as tax resident in the UK. It was one of the companies covered by the 1990 back duty settlement. The 1996 benefits review stated that any costs of a capital nature relating to Barrow Green Court and Balnagown Castle were met in the first instance by AIT Services (United Kingdom) Ltd and invoiced on a monthly basis to Bocardo SA. Those invoices were said to be settled from personal funds in Geneva. The motor vehicles available in the United Kingdom for use by the Fayed brothers were said to be registered in the name of Bocardo SA. The cost of the vehicles, and the costs of their insurance, maintenance and fuel, were said to be met by the brothers from personal funds.

Prestige Properties SA:- This was another of the companies covered by the 1990 back duty settlement. As mentioned above (at para.173), it also featured in the 1996 benefits review, where it was described as the owner of the buildings in Park Lane.

Etablissement Wallon:- As mentioned above (at para.173), this company also featured in the 1996 benefits review, where it was said to pay the rent due in respect of the flats in Park Lane made available to the Fayed brothers, and to be reimbursed thereafter by the brothers. Mr Carmichael said in evidence that he had been advised by the Revenue department which dealt with international matters that "Etablissement Wallon" was probably not the name of a company, but (as the literal sense of the words would suggest) a type of Belgian corporation.

Limousine Etoile:- This entity was mentioned in The Bodyguard's Story as having provided the car and chauffeur involved in the accident in which Diana, Princess of Wales, and Emad Al Fayed died. It was said to be owned jointly by Mohamed Al Fayed and The Ritz Hotel Ltd.

Ross Estates Ltd:- The SCO London papers contained information about this company, as mentioned above (at paras.21 and 50), concerned inter alia with the question whether it should be regarded as tax resident in the UK. It was another of the companies covered by the 1990 back duty settlement.

The Harrods group:- This group of companies was discussed above (at para.138).

Liberty Radio Ltd and Punch Ltd:- These companies were members of the Liberty group, which was discussed above (at para.139). Mr Carmichael had seen these companies mentioned in the material downloaded by Mr Lockyer from the internet (see para.265), and they had also been mentioned by the LBO officials at the meeting on 11 February (see para.221).

Fulham FC:- Mr Al Fayed's involvement in the affairs of Fulham FC was mentioned in the trial transcript and in the internet material which Mr Carmichael had read. Fulham had also been mentioned by LBO at the meeting on 11 February. The Fulham companies are discussed in greater detail below.

Hyde Park Residence Ltd:- This company was mentioned in the trial transcript, where it was said to manage the flats in Park Lane and to employ security staff at the Villa Windsor in Paris. Mr Al Fayed gave evidence that he owned the company. The KPMG review contained more detailed information about the company's role in relation to the flats, aircraft and security staff, as discussed above (at paras.173-174 and 267).

Balnagown Castle Properties Ltd:- This company was mentioned in the trial transcript as managing Balnagown Castle and employing staff there. The SCO London papers also contained information about the company, as mentioned above (at para.21).

AIT Services (United Kingdom) Ltd:- As mentioned above (at para.374), this company featured in the KPMG review as being involved in the arrangements for the payment of capital costs relating to Barrow Green Court and Balnagown Castle. It was also said to meet capital costs in relation to the flats in Park Lane, which were thereafter reimbursed by Prestige Properties SA. It was also said to meet non-capital costs relating to Barrow Green Court, and council tax in respect of all the domestic accommodation, subject to reimbursement by the brothers from personal funds.

Pinegrove (Millbrae) Ltd:- This company was mentioned in the trial transcript. From the evidence of Ms Bond, it appeared that Mr Ali Fayed had purchased an apartment for an elderly couple, as an act of charity. The company was said to have been used as a vehicle for the purchase, in order to protect his anonymity. One of the elderly people had subsequently died. On the death of the remaining occupant, the apartment was to go to charity.

Genavco Air Ltd:- This company was mentioned in the trial transcript, where it was described as a management company. Further information about the company was contained in the KPMG review, where it was said to have met the costs of air travel until 1993, the costs being reimbursed by Fayair (Jersey) Company Ltd. That information was also contained in the SCO London papers (see para.17). Since 1993, the costs had been met by Hyde Park Residence Ltd and then reimbursed, as explained above (at para.174).

"The SCO investigation will cover several discrete areas:

The LBO will have responsibility for:

"The PAYE Disclosure Report needs to be initiated and terms of reference drawn up."

"The risk assessment is in amongst all that lot."

"I also then spoke with Jim Williams of Glasgow LBO and we discussed again our plans for ensuring that as far as we could there was simultaneous notice to the other side of a joint personal/corporate review of the family's affairs."

"44. I was aware that SCO were intending to advise Messrs Freemans on 2 June 2000 that the Department regarded the forward tax agreement as ultra vires and hence unenforceable. I was also aware through various conversations that Mr McGuigan and Mr Carmichael were intending to meet with Mr Murray of KPMG on that same day to discuss the implications with him. By that stage the risk assessment process in Glasgow LBO had progressed to the point that it was clear that there were still a number of fundamental points arising from the risk assessment of the accounts to 31 January 1998 [see paras.143-155] that needed to be addressed and a study of the accounts to 30 January 1999 confirmed that that remained the case. Although there was still work to be done on the detail of the tax computations of the various companies concerned, I had agreed with SCO that given the extent to which we wished to examine the interaction between the companies and those controlling them, principally Mr Al Fayed, it would be wrong for us not to make clear the extent of the CCW exercise. The problem was that although we believed the various companies to be closely controlled by Mr Al Fayed they were separate legal entities and were not to our knowledge represented by Messrs Freemans or KPMG. Knowing Mr Al Fayed's reputation for litigation from the media I was firmly of the view that despite the extent of the interaction we would be open to criticism if we put a foot wrong on questions of confidentiality. I was equally concerned that if we did not act openly we would be accused of acting in an underhand way. The solution that emerged was for me to telephone Mr Hadden, the Group Taxation Manager for Harrods, a couple of days before the meeting to advise him of what we were proposing to do on the corporate front, to make it clear that it was to be a CCW exercise and to offer to discuss the matter with the Group's senior executives or professional advisers. The matter was described as urgent in order to prompt Mr Hadden into referring the matter up the line in the hope and expectation that it would quickly reach a level at which it would be connected with the forthcoming meeting with SCO. This would enable those responsible for the affairs of the companies to involve themselves in that meeting if they so wished. The arrangement clearly worked in that I understand that Mr Murray indicated at the meeting on 2 June 2000 that he was aware of the contact with Harrods. My telephone call to Mr Hadden on 31 May 2000 was followed up by a letter of the same date [see para.2] that was also faxed to him following our conversation. Mr Hadden wrote to me on 2 June 2000 confirming that he had spoken with Mr McGuigan which again confirmed that someone had made the link with the enquiries on Mr Al Fayed without our specifically telling them.

45. ...All that was fundamentally different in this case was that due to the pressure on SCO to act by 2 June 2000 and our desire not to be seen to be acting in bad faith by not advising the relevant parties of where the LBO risk assessment was taking us I made my initial approach to Harrods a little earlier than I might otherwise have done. There was, and remains, no doubt in my mind, however, that on the basis of the risk assessment findings up to 31 May 2000 it was by then inevitable that an in depth review of the group's tax affairs would be necessary. As explained at paragraph 44 the reason for contacting Harrods a little in advance of 2 June 2000 was an attempt to be helpful by creating a situation in which KPMG could have discussed the wider issues had they been instructed to do so.

...

48. My understanding was that SCO had to act quickly on the matter of the agreement and that the pressure they were under from Mr Al Fayed's advisers was by that stage dictating the pace of their actions. If it were not for the need to be open about our intentions as regards the companies then I would have preferred to have left the announcement of our intention to make enquiries until later. But I remain of the view that had we done so we would in all probability have been accused of not being candid, a view that I would have had more sympathy with."

"Were it not for the involvement of SCO then I would probably not have written to Mr Hadden quite so early but have fully wrapped up all of the loose ends of the risk assessment first. I would then have rung or written to him offering to meet on similar terms to those used in the final paragraph of my letter of 31 May 2000 but without the reference to senior executives and advisors and without any mention of urgency."

"I am advised that the letter of agreement dated 28 April 2000 is not enforceable because it is ultra vires. The agreement takes no account of the possibility of there being a false factual basis for the contract. Also it does not allow for any changes in the facts or circumstances for any unexpired years or for changes in future legislation. I should also make it plain the agreement is ultra vires because it does not reflect as it should the performance by the Revenue of its statutory duties and care and management powers to assess and collect tax. Accordingly, the letter dated 7 March 2000 can be disregarded in respect of its reference to the suspension of the agreement. The agreement is not and never has been binding in law.

In view of the history of the arrangements the Inland Revenue do not believe that it would be appropriate to re-open the back years in respect of liability to income tax and capital gains tax on foreign source income and capital gains prior to 5 April 2000. Accordingly, in this connection I would be grateful if you could arrange for your client to forward to me a cheque for £240,000 made payable to Inland Revenue in respect of the year to 5 April 2000.

For the years from 6 April 2000 onwards Tax Returns will have to be completed in accordance with the family's statutory responsibilities, and without reference to the agreement."

"The Revenue will also be looking to verify the position as set out in the KPMG benefits report of 1996. This will entail a detailed examination of the mechanism by which all benefits are identified, quantified and recharged. To do this I propose to review in depth the 1999 Tax Returns and appropriate notices of enquiry will be sent by separate letter.

Furthermore, in the light of matters raised in the recent Hamilton libel case, the Revenue does not consider it has a sufficiently full picture of the Fayed Family circumstances and does not consider it would be discharging its duties appropriately unless it sought to satisfy itself concerning any other liabilities. Accordingly there will be a need to review the Fayed Family position and that of any individual, companies or organisations connected with them. To do this I shall need a comprehensive list of Family members including their respective names, addresses and ages and a list of all the companies, charities and trusts associated to them.

This enquiry work will be undertaken by Special Compliance Office under Code of Practice 8, a copy of which is enclosed and should be brought to your clients attention. I also enclose Inland Revenue Leaflet IR 120."

"As we had not viewed or received the Home Office papers by 2 June  2000... what has been recorded by KPMG cannot correctly reflect what was said."

"My notes of the same meeting do not record that event. I record that Mr McGuigan and myself commented on the Hamilton v Fayed trial and the nationality applications but our references were restricted to newspaper coverage and were general in nature."

"[0]n reflection the use of the word "record" in the sentence is perhaps ambiguous in that the only record is that set out in the affidavit itself. I should perhaps for greater clarity have used the word 'recall'. If 'recall' is substituted for 'record' the sentence would read: 'I recall that Mr McGuigan and myself commented on the Hamilton v Fayed trial and the nationality applications but our references were restricted to newspaper coverage and were general in nature.^'"

"They [Mr Carmichael and Mr McGuigan] certainly were unable to communicate any precise definition to me and I think for the purposes of the meeting we agreed to continue with the vague phrase 'the family'... The purpose of the meeting was to obtain a view as to where the Revenue thought they were going with this. There was no point in having an argument at this stage about the parameters of 'The Fayed Family', so we agreed to just proceed on the basis as noted in our note for the moment. But, frankly... I do not know who is encompassed by that."

"Who are the persons or individuals covered by this intention to investigate? What liabilities does the Revenue have in mind? From the point of view of a professional adviser, it is hopelessly broadly drawn. To my mind, when I read it, the one thing that is precise is that the Revenue wishes to have a full picture of the Fayed family circumstances, and there is a very incomplete, and in some cases completely absent, link to tax liability here."

"It represents an enormous drift from the idea that we were examining the 1999 returns, and whereas one can postulate circumstances in which there might be a knock-on into an individual's tax affairs, one would imagine the prime objective of these enquiries is to look at the tax affairs of limited companies based overseas."

"In my view it is appropriate as a precursor to active enquiries in an investigation, and to determine the extent of any investigation, to obtain an overview of the relationship between the connected individuals and entities".

"So that the purpose of the letter was for the representatives to take an opportunity to inform me of the companies, charities, trusts and the family members. Quite simply, if Salah Fayed lives in Switzerland, and has no UK connection, then we can strike him from our list of further work. Similarly, Ali Fayed. Once we see the list of companies, we can start reducing that list to focus then on companies that we think would give a profitable outcome, a proper outcome, to an investigation."

"In order to determine work that has to be done, I need to acquire the information which I have requested. So that is the first step. Thereafter I can focus in on the areas that I think will warrant investigation."

"One must be selective in what one investigates. So I would have to consider the information, determine where the risks are and tackle the risks. That is how the investigation would unfold."

"Both in my letter of 2 June 2000 and at the meeting of the same date I asked for a comprehensive list of Fayed family members to include their names, addresses and ages and a list of all companies, charities and trusts associated with them. My enquiry plan and risk assessment disclose that benefits may be provided to family members but do not disclose to which family members. Under the rules for taxing benefits where benefits are provided to an employee/director or his family or household there is a charge to tax upon the employee/director. In order to consider the position in respect of benefits I need to establish the identity of any company which might be paying those benefits."

"As explained at paragraph 40 above I need to establish the identity of any non UK company which may be controlled by Mr Al Fayed."

"Mr Al Fayed's perceived autocratic manner, which is well publicised and also features in The Bodyguard's Story, directed my attention to the locus of the central management and control of offshore companies. If the companies are centrally managed and controlled in the UK then it has taxing rights on profits. In my view there was therefore a clear indication that the residence of these and other unidentified companies might have an impact on their liability to UK tax."

"During the Hamilton Trial there were identified other entities said to belong to Mr Al Fayed or over which it appeared that he might exercise control, including entities possibly located offshore and possibly in tax haven locations. Those entities might be subject to tax according to their relationship with Mr Al Fayed or members of his family or according to transactions with him or them or any of his UK based companies."

"They are broadly consistent with SCO thinking... Although we identified the need to extend our interest to other major trading elements of the Al Fayed economic entity little work had been done on that by this stage. We were, however, seeking the files for the Fulham Football Club Group which had not previously been dealt with by Glasgow LBO but which should have been in accordance with best practice by that time."

"LARGE CORPORATES

To carry out and follow through a full LBO risk assessment on all large corporates (and associated pension schemes) for the two years to 31 January 1999, with particular regard to

"OTHER UK CORPORATES

Broadly for the three years to 5 April 2000. To identify all other UK corporates directly or indirectly controlled by or associated with the principal individuals or their families and to

In particular we will be interest in any companies that own, occupy, manage or maintain properties, estates, aircraft, yachts, motor vehicles or any other assets used by the individuals or their families."

"OVERSEAS CORPORATES

Broadly for the three years to 5 April 1999. To identify, as far as possible, all overseas corporates directly or indirectly controlled by or associated with the principal individuals or their families and to

"TRUSTS AND PARTNERSHIPS

Three years to 5 April 1999. To identify, as far as possible, all UK and overseas trusts and partnerships in any way connected with the principal individuals and their families and to ensure that any UK tax liabilities are properly addressed.

To identify all members of the immediate families of the principal individuals resident in the UK (family tree) and to ensure that they have been issued with SA returns for the years to 5 April 1999 and 5 April 2000. Those returns to be followed up to ensure that any UK liabilities are being properly addressed."

"DISCOVERY

Although the enquiries will initially be for the periods indicated any discoveries will be followed up in the usual way. Enquiries will also extend into later years as necessary as the enquiry progresses.

It is intended that by the end of this exercise we will be as confident as we can be that we fully understand the business and financial interests of the Fayed family and that they have been brought properly into the SA and CTSA [corporation tax self-assessment] tax regimes. The exercise will therefore cover all aspects of the family's corporate and personal affairs on a CCW basis and will not be restricted, as in the past, only to high profile aspects."

"Accounts still to be reviewed".

"ACCOUNTING PERIOD ENDED 31 JANUARY 1998

To fully assess risks in the economic entity that is the Harrods Group would entail detailed consideration of the effect of the close control and involvement exercised by M. Al Fayed (and probably to a lesser extent, by A Fayed). We - that is, Glasgow LBO - are however precluded from making such a detailed assessment by the effective embargo placed on any enquiries into areas which are said to be covered by SCO's agreement with the Fayed brothers. The details of the agreement are not known except in the broadest terms - the agreement has been held out as one that covers all liabilities arising from what can broadly be regarded as benefits arising from payments made by Group Companies on behalf of the brothers and their families.

In more detail, the areas that have caused concerned to GLBO in the past are

The sale in August 1998 of the Liberty publishing group out of the Harrods Group to a M Al Fayed controlled Jersey resident company has also focussed attention on the Case 1 losses - and financing - of the Liberty group companies. Again however the possibility of a review in this area is circumscribed by the restriction put upon Glasgow LBO in the way of investigating sources of funds possibly coming from the reimportation of dividends paid up to the overseas Trust that is seen as the ultimate parent of the Harrods Group.

Thus, in assessing the risks by reference to the accounting period ended 31 January 1998, there has been a deliberate policy of focussing only on what may be terms as areas of technical concern...

As far as the January 1998 accounts are concerned, I have not proposed making any direct enquiries on the personal side but we could begin to explore the background to the overseas control of the Group. At the same time we need to initiate steps to have the personal side brought under GLBO control - or at least, some sort of co-ordinated control with SCO - on the basis that expiry of the previous SCO arrangement affords an opportunity to reappraise liabilities - both personal and corporate - in a Co-ordinated Casework framework".

"ACCOUNTING PERIOD ENDED 31 JANUARY 1999

In looking at risk areas in the 1999 accounts I am taking a broader look at the Group than has been taken for earlier accounting periods. The approaches recently made to SCO suggest that a Co-ordinated Casework approach to the economic entity that is 'Harrods' is likely to be called for....

Assuming however that GLBO is now entitled to explore whether the CT computations fully reflect all corporate liabilities and that all Sch E (and possibly Case V) liabilities have at least been identified and quantified - even if it is then shown that a separate (SCO led) agreement has to be modified/put in place to account for such liabilities - the areas detailed below require review/investigation. There will be some duplication of points as I have compiled the following from looking at the three main accounts in sequence. Much of the work to be done will involve determining how, what and where recharges have been/should have been made and where possible benefits have arisen but without at this point knowing any detail of the (expired) SCO agreement, it is not possible to be definite as to the actual Company bearing the expense.

Overhanging all of this - and the summary of points below - is the information relating to the availability and use of substantial amounts of cash and of Harrods vouchers by M Al Fayed as evidenced in the recent (Hamilton) libel trial. Cash spending, living requirements etc. are probably matters for SCO to tackle but on the assumption that Harrods must be the generator for much of the wealth of the brothers Fayed only a CCW approach can achieve a realistic degree of certainty that all risks have been addressed.

...

...

...

It is here in this Company's account that most of the larger sums are to be found, where potentially material amounts of benefits, own goods adjustments etc. may be identified. Given the comments above (in relation to the Hamilton trial) regarding the availability of cash, vouchers etc. as reward for services to employees there will be a part to be played by LECO in a CCW context.

...

This aspect of a total economic entity review is mentioned above in the context of Harrods Ltd's accounts. There are however other UK corporates 'controlled' by M Al Fayed - some ex-House of Fraser companies retained in the Fayed fold (but not the Harrods fold) after the divestment of what is now the HOF group - that are not shown to have had transactions with the Harrods companies. Some files are held here in GLBO e.g. the Genavco companies, Turnbull & Asser, Modena Engineering - others will have to be brought in for review e.g. Fulham Football Club. The GLBO-held companies have been viewed in the past as 'clean' - i.e. there have been no apparent avoidance devices employed and the activities have mostly been of a straightforward trading nature. There has however been little, if any, effort to look at such areas as funding to see if there are connections back to UK generated i.e. Harrods, or overseas, funds.

A similar situation i.e. introduction of loans has persisted in the Liberty Group up to the point where this sub-group's ownership changed from being within the Harrods Group to being owned by an Al Fayed controlled Jersey company.

Going on from this area is the consideration of what overseas entities (corporates) could be said to be controlled from the UK and/or whether emoluments in the shape of benefits enjoyed from those assets, services etc. in the UK or abroad should be assessable under Sch E. A broad question, but one that needs consideration (and discussion with SCO and a Sch E expert)."

"The company's immediate and ultimate parent undertaking is Fulham Leisure Holdings (BVI) Limited, a company incorporated in the British Virgin Isles which is under the control and held for the benefit of Mr Mohamed Al Fayed and his family, the ultimate controlling party."

"The ultimate parent undertaking is Fulham Leisure Holdings (BVI) Limited, a company incorporated in the British Virgin Islands which is under the control and held for the benefit of Mr Mohamed Al Fayed and his family, the ultimate controlling party."

"JW [Mr Williams] commented that I would be well familiar with LBO risk assessment techniques, even though they had moved on a little from the time that I was familiar with. The LBO had carried out a corporate risk assessment. There had been a risk assessment on the corporate group. That was what had triggered matters. Of course, this being a private group, the interaction between the corporate group and individuals would be a key feature, probably the most important feature. Undoubtedly, certain pure corporate issues would be identified, but the areas of greatest concern and interest to the Revenue were those where there was interaction between corporate issues and private issues... JW said he anticipated that various agencies would be involved in the CCW process... The Revenue would ensure that, on their side, the principal parties would be working hand in hand on CCW lines."

"· The interface between the Group and its ultimate owners

· Transfers of business into and out of the Group

· Utilisation of the Harrods name

· Expenditure not for the purposes of the Harrods trade

· Entertaining and sponsorship

· Application of PAYE."

"1. THE FAMILY

2. CHECKING THE BENEFITS REPORT

3 UK COMPANIES TO BE INVESTIGATED

4 OFFSHORE COMPANIES TO BE INVESTIGATED

4.2 Fayair Jersey Co Ltd

4.3 Bocardo SA

4.4 Prestige Properties SA

4.5 Etablissement Wallon

5 PAYE DISCLOSURE

5.1 Terms of reference to be drawn up."

"3.1 Risk assessment

3.1.1 JW [Mr Williams] outlined the manner in which LBO carries out its work. He explained that the LBO cycle of work commences with a risk assessment of the economic entity. The review will identify and seek to quantify areas of risk. Any subsequent enquiries will be based on this risk assessment.

3.1.2 JW said that because Harrods Group is a private group this presents a number of problems. In a public group, it is easier to differentiate between the affairs of the companies and of their respective directors/shareholders.

3.1.3 JW said that he felt it was not possible to look at the affairs of Harrods Group without looking at the involvement of the directors/shareholders and other associated bodies. A major potential area of risk identified was the interface or the interaction between corporate interests and private interests.

3.1.4 JW indicated that the risk assessment process had been made difficult because of the lack of knowledge of how the group operates. What had been identified as a significant risk area might not be so significant if LBO was able to learn how the Harrods Group deals with the directors/shareholders.

3.1.5 JW said that his aim in this meeting was to give a general outline of issues that were to be raised.

...

3.1.7 JW will follow up this meeting with letters with detailed questions in the next few days. Most of the content of these letters had been prepared in draft form before this meeting.

3.1.8 JW said that in respect of the question of the interaction between the group and the directors/shareholders, the initial questions would be general and exploratory... JW reiterated that he was concerned that these interactions were an area of significant risk but the risk that existed now may be due to a lack of understanding.

3.1.9 [In response to a question about the letter of 31 May 2000,] JW explained that the SCO activity and the LBO risk assessment had been started independently and had been running in parallel. Once the SCO concerns had been brought to LBO notice it was realised that there was a great deal of overlap. It was inevitable that the two enquiries were going to take place. JW did not want Harrods to consider that the LBO enquiries were being directed by SCO as part of their enquiries. LBO did not wish to be accused of not being open and honest. At the same time, JW could not indicate to Harrods Group the existence of the SCO enquiry into the affairs of the family. The letter to Harrods had been designed to prompt the Harrods Group Tax Manager to pass it up the line where it would hopefully reach someone who was aware of the SCO matters - By this means, it had been hoped that the two separate strands of Revenue enquiries, LBO and SCO, could be brought together to the attention of the appropriate professional advisors. The letter had been marked urgent because of the impending meeting between JM [Mr McGuigan] and TM [Mr Murray]."

"9. The Revenue referred to HM's letter of 7 July 2000.

"JM [Mr McGuigan] explained that in respect of matters relating to the agreement there was no investigation. SCO simply required to check that all benefits provided in 1998/99 to the family had been identified, quantified and recharged as the 1996 report stated. The investigation would relate to matters that SCO believed were outside the scope of the agreement."

"4.2.2 TM [Mr Murray] explained that Mr al Fayed had approached KPMG because of a realisation that because he was a very generous person and because he deals in cash and because he is in the habit of making cash gifts to employees then there might be a PAYE failure problem.

4.2.3 TM said that the gifts were largely in the form of birthday gifts or testimonials that would not give rise to a tax liability, but it was accepted that certain payments may give rise to a tax liability. Mr al Fayed was willing to take responsibility for the payment of any PAYE due.

4.2.4 AC [Mr Carmichael] identified the areas he would expect the disclosure report to cover. These will include the practice of giving cash to employees, domestic staff receiving cash 'top ups', payments to staff to supplement their salaries, payments to 'personal staff' at Christmas and other holidays, clothing and meal allowances paid to 'personal staff', direct payments to staff or unvouched travel, domestic and other expenses, golden goodbyes and other payments to staff under confidentiality arrangements and other payments to 'personal staff' for services to Mr Al Fayed and family.

4.2.5 AC disputed TM's assertion that the majority of the payments were true gifts. He said that it was clear from books, trial transcripts and other sources that such cash payments were regular."

"4.3.1 AC asked for a family tree for Mr Al Fayed. TM queried the relevance of this information. AC and JM explained that this information was not known and its possession would assist in the check of the benefits position. It would enable the Inland Revenue to check whether all benefits received by family members had been included in the [KPMG] reports."

"4.3.5 AC asked for details of all UK bank and building society accounts and credit card and charge cards available."

"4.3.6 AC requested details of any trusts settled by the family and any charitable trusts established. TM questioned what relevance charitable trusts could have to matters under enquiry. AC said that it was not unknown in SCO cases for persons to donate to charities but to receive benefits in return."

"4.4.1 AC said that his aim was to check the benefit report. This was not an investigation. AC said that the previous reports had not been checked. TM disputed this. He said that the Inland Revenue in the past had been given wide access to various bank statements and other records on a wholly voluntary basis. Extensive negotiations had taken place and a great deal of information had been provided and was now available to the Inland Revenue. JM agreed that information had been made available but for the purpose of reviewing the remittances position. The past benefits reports had not themselves been examined in detail.

4.4.2 JM requested as a first stage a breakdown of recharges covered by remittances. This would allow the trail to be followed back as a first stage check of the report.

4.4.3 JW said that there was considerable overlap with LBO interests in this area. He stressed the importance of a step by step approach in reviewing the machinery of the recharges and remittances.

4.4.4 TM said that he had no reason in principle to believe that the 1996 arrangements differ from those in 1999. But he did not know. It was important not to speculate. He will go away and find the information.

4.4.5 AC said that the areas he wished to examine were listed in the agenda, which was largely self-explanatory. He did not propose to run through each item during the meeting. TM agreed.

4.4.6 AC raised some specific points.

4.4.7 AC wanted to review security costs in light of what had been said in various publications. He asked TM to review this expenditure in light of S.112 & 113 FA 89 [which are concerned with the deductibility of expenditure on personal security in computing profits]. This would also affect Harrods Group accounts. AC asked TM to consider how costs of security for offshore locations have been dealt with.

4.4.8 AC asked for details of legal costs and the mechanisms employed for determining whether these costs were business or private. He asked for details of law firms retained. TM thought that these queries were uncontentious.

4.4.9 AC asked for confirmation that there were no loan accounts with the companies and that remittances actually occurred. TM understood that there were no loan accounts in existence."

"4.5.2 JM said that he would like to draw a distinction between Harrods Group companies and other companies which were those that SCO were interested in. These were the genuine family asset owning companies. A number of these were already known and AC was actively attempting to identify any others. It would assist if TM could supply a family tree identifying all UK companies controlled by the family."

"AC said a lot of companies provided services for and on behalf of individuals. They wanted an overview of companies and some had been identified. JM said they were trying to distinguish between those SCO are interested in and those under the Harrods banner. TM took issue with the word 'investigated'. What are the reasons for and purpose of the investigation? JM said they wanted to know about activities of companies and benefits provided to family members... AC said he wanted to know what companies existed and were linked to family members."

"It was not apparent that these companies had been identified for investigation for any reason other than that they were connected with [Mr Al Fayed]. The Revenue appeared to have very little knowledge of the companies they had identified for investigation other than possible connections with [Mr Al Fayed]."

"4.6.1 TM asked what grounds AC had for investigating the affairs of the overseas companies. AC said that it was clear from press articles and other publications that Mr al Fayed had an autocratic management style. It was therefore reasonable to assume that where there are offshore companies with significant UK assets owned by the family then there may be questions of central management and control.

4.6.2 AC said that he had questions relating to the central management and control of Boccardo. TM said that given the extent and nature of the assets owned by this company he did not have any reason to object to AC asking these questions.

4.6.3 IB [Mr Burton] was concerned about the volume of information that could be required by the Inland Revenue. He was not willing to consider disclosing all offshore interests in cases where those offshore interests had no bearing on UK tax liabilities. If the Inland Revenue persisted in its request, he would have to seek advice and instruction."

"IB said that we would need to consider the Inland Revenue's position and how to respond. AC said they were asking questions to add to their knowledge. JM said that the Inland Revenue did not want to have incomplete knowledge of what MF and his companies did in the UK. TM said that we were unhappy at the prospect of being lured into a world wide endeavour especially when there were families and people who no longer had contact with the UK. We would want to resolve UK issues. We would not be so accommodating with things that have no relevance to UK issues. Our obligation to our clients was to see things were dealt with clearly. A lot of the things being talked about today were in Inland Revenue files and the public arena. Much information had already been provided and not much had changed. TC said that on the corporate side he would receive the detailed questions which the Inland Revenue were entitled to ask: TC said he was entitled to try to persuade the Inland Revenue not to go down certain routes if these were not leading anywhere."

"Generally, the SCO responsibility will include:-

The Glasgow LBO will have responsibility for corporation tax issues arising within:-

1. The Harrods Group both within and without the UK.

2. Other major trading UK companies.

3. The main offshore trading associates of the UK trading companies."

"The information and documentation required is as follows:

"1) Group Ownership

I should like to have a full appreciation of the chain of ownership - both legal and beneficial - and control from Harrods Holdings plc through to the ultimate beneficial owner(s). Will you please give details of this ownership chain, indicating where each entity is considered to be resident and the basis for each residency claim. I also wish to know the status i.e. company, partnership etc. of each entity and please let me have copies of the accounts of all such entities in the chain for which any period falls within the period ended 31 January 1999.

To what extent are any of the chain entities in any way managed, controlled or administered in the UK? Do any of the chain entities operate through any branch or agency in the UK?"

"Please note that as the group is now part of the overall economic entity controlled by Mr Al Fayed and his family its tax affairs will henceforth be dealt with by this office.

I have been reviewing the files sent to me by my colleague at Hammersmith 2 District but I am having difficulty in following the transactions by which the club and the Craven Cottage ground came under Fayed family control. Will you please therefore let me have the background and other information requested in this letter. This will enable me to consider the tax consequences of the transactions leading up to the change. It will also place me in a better position to take up the remaining open issues on the group and to make a more informed risk assessment in respect of accounts and computations for subsequent periods."

"The Shareholders

The following requests relate to the interests of the shareholders in the group. I have included them in order that this letter can set out the full extent of the background information that I am seeking but I appreciate that they may not fall within your sphere of knowledge. If you are able to meet the requests then will you please do so. If not then will you pass them on to the appropriate shareholders or their professional representatives.

"If a third party does not hold information or does not wish to supply it that decision is initially a matter for the third party and it may decline to assist. As you are presumably aware the Revenue has statutory rights to seek recovery of materials from third parties (see section 20(3) of the Taxes Management Act 1970) [see para.565]...

Against that background I am prepared at this stage... to redirect any questions which have in the recipients views been misdirected so that they are sent to the appropriate taxpayer. I cannot however, standing what I have said above, guarantee that I will not have occasion to raise third party queries in future.

... I must advise you that if we do not receive an early commitment from you to provide the information requested on a realistic time scale then given the negative approach reflected in your correspondence and in cancelling the meeting, we will proceed by way of formal information powers."

"The letter does not require or oblige the recipient to reply. At this stage these are informal requests and it is entirely open to the recipient to say that they are not able to provide the information... or even that they decline to provide it. I find it difficult therefore to see why the questions cause any difficulty."

"I note that following its departure from the Harrods Group the Company is incurring losses with no indication of any prospect of profitability... I further note that the Group has now made provisions against the whole of the amount of its investment in the Company and that the accounts have been prepared on a going concern basis only on the understanding that the ultimate parent will continue to fund operations. In the circumstances it would seem that during the year the Company was not carrying on a trade on a commercial basis with a view to profit and thus the losses are not available either for group relief or to be carried forward and on that basis no purpose would be served by my raising any queries in respect of the year. Do you agree? If not will you please let me have the following:

"At present I am of the opinion that no Group Relief is available to the Company. To finalise the position however the outcome of correspondence elsewhere in the Group will have to be concluded."

"We have spoken about the position of the company, The Ritz Hotel Ltd.

It would indeed appear that the Company has made no returns to the Inland Revenue... Glasgow LBO will be looking further at the matter and it would be a useful starting point if you could say why you understand the Company not to be liable to UK Corporation Tax."

"(1) A company which -

"I understand that The Ritz Hotel Ltd is a company incorporated in the United Kingdom but it would seem that it does not submit Corporation Tax returns to the Inland Revenue.

In the circumstances I would like to establish whether or not the company is resident in the UK for tax purposes. To enable me to do this will you please let me have the following information and documentation.

"The response to your letter can be put quite briefly. The Ritz Hotel, Limited was incorporated in 1896 and has not carried on any business operations in the UK. It has throughout been treated by the French Tax Authorities as resident here for tax purposes. We believe that the factual background and technical analysis is clearly set out in the Company's letter of 28 November 1994 to HM Inspector of Taxes Chelsea District which is attached as an enclosure to this letter.

For your information we enclose:

The circumstances of the Company as set out above have not changed since the letter of 28 November 1994. By reason both of the joint ruling of the respective tax authorities and of Article 3 of the 1968 Double Tax Agreement between the UK and France, the Company is to be treated as resident in France for all tax purposes in accordance with section 249 Finance Act 1994.

Given the clearly established status of the Company for tax purposes (and, indeed, the very large deficiency on profit and loss account brought forward), we find it difficult to see what purpose would be served by debate concerning UK tax residence and would be obliged to have your confirmation that this matter may now be regarded as concluded."

"Although I note that the principal activity of the company consists of the proprietorship of the Ritz Hotel in Paris its residence for tax is determined not by reference to where that activity is managed but to where the company itself is incorporated and managed. Although it is clear that the company was incorporated in the United Kingdom there is no evidence in the material that you have sent me that either the French or British tax authorities have recently considered where that management is actually carried out. I understand, however, that although Mr Klein is responsible for the day to day running and management of the hotel itself he reports directly to Mr Al Fayed.

To enable me to review the matter further, therefore, will you please let me have the rest of the information and documentation requested in my letter of 24 October 2000."

"We stated in our previous letter, and again reiterate, that the taxation status of the Company is governed by the long-standing agreement between the taxation authorities of France and the United Kingdom, which we enclosed with our previous letter. Are the comments in your letter of 6 December 2000 to be taken as an indication that you believe that the mutual agreement procedure provided for in Article 26 of the Double Taxation Agreement should be invoked?

If, on due reflection, you wish to continue this correspondence, please may we have a considered response to our last letter and then we will consider whether it is appropriate to invoke the mutual agreement procedure. Further demands for information and documentation when earlier detailed responses are left effectively unanswered cannot be the right way forward."

"For a large owner-managed business it might be appropriate for LBO to co-ordinate its work with SCO, for instance to check on the interface between the company on the one hand and the operation of the benefits legislation relevant to the shareholders and the directors on the other. But under CCW I would expect there also to be liaison with other parts of the Revenue such as PAYE auditors. I was surprised to find in my clients' case that there appeared to have been no reference to the PAYE auditors. What was happening here seemed to me not so much co-ordination as a joint investigation."

"Contact was subsequently made with the PAYE auditor in this case, but in the continuing absence of the expected KPMG report in respect of inter alia possible PAYE irregularities by the group, one would not expect PAYE auditors to be actively involved at this stage of the enquiries. I think Mr Cawdron's comment may stem from his Revenue experience in the early days of the formal CCW pilot. At that time it was the norm on pilot CCW cases for annual meetings to be held involving a large number of representatives, from various agencies in the Revenue, such as the District Valuer, the Schedule E district and the PAYE Auditor. Sine that time, though, such meetings have become unusual because they weren't a productive use of resources. Instead liaison is governed much more by the needs of the individual case. Involvement of the other agencies takes place as necessary and where required rather than being a matter of routine."

"I cannot recall ever having seen a letter written in the terms of the letter of 31 May 2000, announcing the start of what might otherwise be seen as a normal tax inquiry. What is unusual about my client's situation is the manner in which the Revenue's proposed actions were announced. For a long time nothing had happened. Then we were supposed to react as if there were some great unexplained mystery.

As regards the last paragraph of the letter of 31 May, an Inspector may well decide that he should start off by seeking to arrange a meeting. If he wants to have a meeting urgently, I would expect him to have his questions ready. I can think of no situation in which an Inspector would not have fully researched the questions he wanted to ask before writing such a letter. Given that the Inspector is talking about an 'in-depth review' and has marked his letter as urgent, I would be amazed if there were not a risk assessment in place at that time.

...

This [a risk assessment] means to me that research has been done; the papers have been reviewed; relevant background material has been gathered and reviewed; research analysis has been done; the Revenue have identified the precise areas for inquiry where there is specific tax that is at risk; as a result they know what questions are to be asked.

Given what Mr Williams said to me on 15 June 2000 [see para.450], and given the terms of the letter to Mr Hadden dated 31 May 2000, it was my natural assumption that a risk assessment was in place by 31 May 2000. That is not to say that there must be a formal piece of paper saying 'Risk Assessment of Harrods Group'. A lot would depend upon the practice of the individual tax inspector. There would, however, be a file of papers containing a body of material, whether it was a large formal document that the inspector would share with the client or loose bundles of papers. The second is as much a risk assessment as the first.

In one sense risk assessment is continuous. The research continues, and you build up information. But identifying specific questions related to tax at risk for a particular accounting period is a different matter. As I have said, you cannot make all the inquiries at once. You are regularly building up information that may be the basis for inquiries in later years. But what you must do is identify the issues you are going to deal with in a particular year. For any given year, you must bring your risk assessment to a conclusion. You do so before issuing a letter such as that of 31 May 2000."

"[I]t concerns the UK tax liabilities of members of the Harrods Group and apparently associated corporates ... it is necessary to determine the control and residence of these companies, inter alia so that we can consider any transfer pricing issues."

"None of the substantive issues raised in the letters issued on the Harrods group are outside the broad range of risks identified in the 1998 risk assessment ... I understand from speaking to Jim Williams and Harry Murrin that ... the detailed letters of enquiry on the companies in the Harrods group are the product of [the 1999] risk assessment ... I cannot identify any request for information which is not proper to the corporate concerned, or might not be asked in similar circumstances on another case."

"33. By the time of the meeting of 13 July 2000 I had become aware of the issue of Code of Practice 8 to KPMG as regards the inquiries relating to their clients. No codes of practice have been issued at any time to my clients. This is in spite of the reference by Mr Williams to his inquiries being an 'in-depth' review, which in my opinion takes the matter beyond the normal inquiries into a large organisation's tax filing. In the light of further documents that I have seen, it is clear to me that the Revenue's actions as regards my clients are as much an investigation as those taken with respect to KPMG's clients. I would therefore expect a Code of Practice in relation to investigations to have been issued to my clients and the Board's instructions in relation to investigations to apply to them.

34. An essential pre-requisite for any investigation is that a full review of the taxpayer's affairs has been carried out, and the process of and need for a full file review is instilled into inspectors when they first embark on investigation work. These processes are referred to in IH 1350 [see para.624], and Code of Practice 8.

35. From the documents I have seen it is clear that no pre-investigation review had been carried out by Glasgow LBO by 31 May 2000. Indeed, I now understand that no risk assessment had been prepared by Glasgow LBO prior to 2 June 2000, a fact that I find startling given the other documents I have seen.

36. I cannot conceive of the Revenue having issued a letter in the terms of that issued on the 31^st May without having previously instituted and carried out a process of review. It would appear that no such process was followed and it seems to me that the only reason for investigating my clients' affairs was the Revenue's wider desire to investigate the affairs of Mr Mohammed Al Fayed."

Collection and assessment in general

Assessment prior to self-assessment

Self-assessment

Collection without assessment

PAYE

Information powers

"(1) It shall be lawful for Her Majesty the Queen to appoint persons to be Commissioners for the collection and management of inland revenue, and the Commissioners shall hold office during Her Majesty's pleasure.

(2) The Commissioners shall have all necessary powers for carrying into execution every Act of Parliament relating to inland revenue, and shall in the exercise of their duty be subject to the authority, direction, and control of the Treasury, and shall obey all orders and instructions which have been or may be issued to them in that behalf by the Treasury."

"(1) The Commissioners shall collect and cause to be collected every part of inland revenue, and all money under their care and management, and shall keep distinct accounts thereof at their chief office."

"(1) Income tax, corporation tax and capital gains tax shall be under the care and management of the Commissioners of Inland Revenue (in this Act referred to as 'the Board'), and the definition of 'inland revenue' in section 39 of the Inland Revenue Regulation Act 1890 shall have effect accordingly.

(2) The Board shall appoint inspectors and collectors of taxes who shall act under the direction of the Board."

"(1) Except as otherwise provided, all assessments to tax shall be made by an inspector, and -

"If an inspector or the Board discover -

"(1) An officer of the Board may enquire into -

(2) The period referred to in sub-section (1) above is -

"(1) If an officer of the Board or the Board discover, as regards any person (the taxpayer) and a year of assessment -

the officer or, as the case may be, the Board may, subject to sub-sections (2) and (3) below, make an assessment in the amount, or the further amount, which ought in his or their opinion to be charged in order to make good to the Crown the loss of tax."

"What happens in practice is that taxpayers who have, in the opinion of the Board's officers, rendered themselves liable to the imposition of interest and penalties are invited to make a settlement. The procedure is that the taxpayer makes a voluntary offer to pay a sum of money in consideration of the Board agreeing not to take formal proceedings for any tax underpaid and the interest and penalties. If such an offer is made and accepted, a contract binding upon both the Inland Revenue and the taxpayer is brought into being."

"The practice of negotiating settlements is based upon the Board's powers to compound civil proceedings and to mitigate penalties. Since it (sc. section 102) is of such fundamental importance and admirably succinct, we quote the provision in full:

"(1) Subject to this section, an inspector may by notice in writing require a person -

Section 20(2) confers a similar power upon the Board.

"(a) to produce to the officer such documents as are in the taxpayer's possession or power and as the officer may reasonably require for the purpose of determining whether and, if so, the extent to which the return is incomplete or incomplete ... and

(b) to furnish the officer with such accounts or particulars as he may reasonably require for that purpose."

"Section 102 ... permits the Revenue to mitigate penalties or compound penalty proceedings. Like remission of a criminal sentence or reduction of sentence on a plea of guilty, this procedure is doubtless intended to encourage good behaviour and co-operation with the authorities, and it strictly need involve no bargain with the taxpayer, but in practice it is likely to do so, albeit within a coercive framework."

"The power to make agreements with taxpayers for the payment of back duty, even in the absence of assessment and appeal, is in my view a power necessary for carrying into execution the legislation relating to Revenue within the meaning of s1 of the 1890 Act ... [I]f in an appropriate case the Revenue reasonably considers that the public interest in collecting taxes will be better served by informal compromises with the taxpayer than by exercising the full rigour of its coercive powers, such compromise seems to me to fall well within the wide managerial discretion of the body to whose care and management the collection of tax is committed."

"Special Compliance Office investigations

cases other than suspected serious fraud".

"Most taxpayers do pay what is due but, unfortunately, some do not take sufficient care over their affairs and others deliberately try to pay less than is due. When we think this may have happened, we have to investigate the matter to get at the facts.

...

This Code of Practice explains how we, the Special Compliance Office, carry out investigations (other than those where serious fraud is suspected at the outset) and your rights and responsibilities in particular situations. It promises that you will be treated fairly and courteously in accordance with the law and the terms of the Taxpayer's Charter (printed on the inside back cover of this leaflet).

From April 1997 onwards, our investigation may include an enquiry into a Self Assessment tax return. We may deal with the entire tax return, or an aspect of it.

Where our involvement is limited to specific aspects of the tax return, a local Tax Office, or other specialist office, will deal with the rest of the tax return. Where this happens, our work will be co-ordinated. This Code only applies to our investigation."

"We investigate the tax affairs of individuals, partnerships, companies and particular transactions, and also situations where substantial tax may be at risk."

"Before we conduct an investigation, or take over an investigation, we will look at what you have told the Inland Revenue in your tax returns, accounts and statements. We will look at what information we may have from other sources. We may have already made third party enquiries before we contact you or your professional adviser, to establish whether or not we need to proceed.

If, as part of our investigation, we make enquiries into a Self Assessment tax return we are not obliged to give reasons for making the enquiries. We may however, identify particular areas on which the enquiries will focus. In other circumstances we will normally tell you the reasons for starting the investigation unless, exceptionally, we consider that to do so would prejudice the investigation"

"Simply looking at papers does not seem to me to constitute a proper review of the information which the Inland Revenue had and to form the basis for instituting enquiries and investigations ... I have been conducting reviews of files for almost 30 years and a proper review of a file does involve research, reconciliation, comparisons of material, and an investigation plan or any decision on a matter of complexity just does not leap into existence off the screen of the word processor. It seems to me there is an enormous amount of sweat, if one is going to do this sort of job properly, to reach an informed decision as to what action you should be taking,"

"It protects both investigator and the taxpayer. The reason it protects both is because the rules of engagement, so to speak, are well set out in the code of practice. The taxpayer knows where he stands, the investigator knows where he stands. The conversion of the case to a full investigation also allows SCO management to review the case, if necessary, to ensure that it is being properly conducted. The SCOLS system allows for updates by the investigator to be made on screen. So anyone with access to the system can see the developments of the case as it goes along. It think that it is an important protection, both for the taxpayer and for the investigator. The Group Leader and the Deputy Director can both see how the case is developing. But principally the protection comes via the code of practice being issued to the taxpayer, where we set out what we intend to do and we say what we expect of the taxpayer."

"Where there have been errors or omissions in your accounts or tax returns, we will ask you to sign a Certificate of Full Disclosure confirming that you have now declared all your taxable income or gains. We will not ask for a certificate if the investigation showed nothing was wrong.

We will take a very serious view if you sign a Certificate of Full Disclosure you know to be false, so you should consider it carefully before signing."

"If you make a statement you know to be false you may be prosecuted."

"Yes, there are ... It need not be immediately the case is registered, although I would imagine it generally would be in most cases, because the registration report would recommend opening the case as an investigation, and generally there would be no reason to delay not (sic) writing to the advisers and letting them know that we had started an investigation and there were things we wanted to talk to them about ... It is possible that, once the decision to register an investigation has been taken, there may be further third party enquiries made before a formal challenge is made. I think each case has to be looked at on its own facts and circumstances."

"As from March 2000, and the completion of the registration report, SCO are investigating the tax affairs of [Mr Al Fayed]."

"Once we think it necessary to investigate under this Code, we will tell you or your professional adviser in writing."

"At a meeting or otherwise we will give you the chance to

This opportunity extends to all aspects of your taxation affairs whether they are covered by Self Assessment or not.

....

If an offence has been committed we will always take into account, when calculating any penalty which may be due, whether you have been helpful and have freely and fully volunteered any information about income or gains which were omitted or understated. You should ensure that the answers you give us at meetings are correct to the best of your knowledge and belief.

We will make a written record of any meeting we have with you. We will provide you with a copy. You will be invited to agree or comment on the notes in writing, but are not required by law to do so. You have the right to tell us if the notes are not accurate and tell us about any matters with which you disagree.

We expect you to provide complete and accurate information relevant to your accounts and tax returns. It is your responsibility to do so. If you think that what you have told us is wrong, or you want to add anything, you should tell us as soon as possible. You should consider very carefully any points we have raised about your accounts or tax return and reply as fully and promptly as possible. You should ask your accountant or other financial adviser, if you have one, for advice."

"You are not obliged to attend any meeting, but we invite your co-operation in this respect. We do expect you to provide the information which is essential to the investigation. .... If you refuse to attend a meeting in such a case we may have to proceed more formally, for example, by asking the Appeal Commissioners to consider any unsettled appeals. ...

We will ask only for the information we believe to be necessary because we know that some of what we ask for may be sensitive and personal."

We will be aware throughout the investigation that dealing with our enquiries takes up your own time, and that you will have to pay the fees of any adviser you employ. We appreciate that these fees can be high, so we will make sure that our enquiries are reasonable in the overall circumstances of the case."

"We will take up as little of your time as possible by trying to ask for everything we need to know early in the investigation. We will do our best to avoid asking for information in a piecemeal way, but one query often leads to another...

You should respond promptly when we ask you for information. If you co-operate with us in our enquiries, it may limit any penalties you may have to pay."

"If we cannot reach agreement on the additional tax to be paid during the investigation, we may proceed formally. Where Self Assessment applies, we may make a provisional amendment to your self assessment before the end of our enquiries. .... We may also, whether Self Assessment applies or not, make assessments for earlier years. You have a right to appeal against any such assessments or amendments and may ask us to postpone payment of any of the tax. If we cannot reach agreement, you may ask the Appeal Commissioners to decide how much tax you should pay at this stage of our investigation."

"Most cases are concluded by agreement, often by an exchange of letters contracting you to pay an amount to cover specified liabilities and also, where applicable, interest and penalties. If agreement is not possible, we will tell you why and seek to establish the formal determination of liability.

If we cannot reach agreement with you, we may make an assessment or determination of any amounts we believe are due from you, on the basis of all the relevant information available to us at that time. This can include a determination of any interest, surcharge, or penalty."

"The investigations we conduct under this Code are a serious matter. We set high standards for the way we carry out our work".

"Investigation by Special Compliance Office is a very serious matter".

"You are entitled to expect the Inland Revenue

To be fair

"To assist in the control of compliance work on business accounts, three classifications are used to describe the level of examination to which accounts and computations are subjected."

"Classification A covers the majority of the accounts for ordinary businesses. Neither the accounts or the computations should be checked beyond the initial screening, the objective being to agree tax liabilities speedily."

"In practice, classification R applies mainly to important limited companies and other large businesses where it seems likely that technical and computational adjustments could be large and have important tax consequences. Those cases which are not dealt with in Principal Inspector (now A2) accounts districts but are of such a size or complexity that they need to be handled on a long term basis are classified R on a permanent basis (IH 641).

The depth and extent of the review will vary depending on the size and nature of the case and need not lead, if the review shows this is not warranted, to enquiry or further action.

R work covers a wide spectrum of activity from the correction of simple arithmetical errors to extensive and very complex enquiries. However, it will always fall short of the fundamental review of the veracity of accounts and underlying records which is characteristic of investigation work."

These are cases where there is a fundamental review of the accuracy and completeness of the records underlying the accounts and/or a review of the private financial affairs of the directors (or of the taxpayer in the case of unincorporated businesses).

For enquiries to be recorded as an investigation settlement, an in-depth investigation must have been carried out. For example, a quick review of the taxpayer's private financial affairs will not be sufficient to qualify a simple failure case for inclusion in the investigation category. When records have been requested they should have been examined and tested in depth and a detailed record of the findings made.

For the purpose of recording the result of enquiries, it is not the intention to investigate which counts but whether there was a fundamental review. Accounts may be classified E and enquiries begun with the intention of investigating fully. But where you are satisfied by the responses without the records or a private side review, the enquiries should be classified as an 'other compliance' case.

These are other cases where the taxpayer has apparently failed to comply with his or her obligations at the correct time, such that interest and/or penalties may be chargeable.

"Most cases are classified R because of specific points which arise on a particular set of accounts. But some cases are of such a size and complexity that they need to be handled on a longer term basis. Such cases are designated permanent R in districts which are not Principal Inspector (A2) accounts districts.

Cases designated permanent R require a planned programme of review which would cover all important aspects, including the less obvious ones, where a substantial amount of tax could be at risk, in some instances a review of the underlying issues would need to be spread over three or four years. The case will be classified R each year and any enquiries made will cover both the particular points which arise on each set of accounts and any underlying issues which could affect the tax position. Such treatment is likely to be very time consuming and will naturally be reserved for the very largest cases in districts and those presenting particularly high risks.

Suitable cases are identified by Officers in Charge and approved by Regional management. Some offices have very few cases, if any.

Substantial should be taken as meaning tax of £50,000 a year although this limit need not be applied rigidly.

As a guide, suitable cases generally have at least one of the following broad characteristics.

"In the terms of the IH LBO cases are regarded as permanent R (see IH 640). In IH terminology, they do not normally constitute 'investigation' or 'E' cases. A large part of the material in the IH manual does not therefore apply to the LBO case."

"The following paragraphs tell you about selection of cases for investigation. You can only investigate if you are dissatisfied with accounts or returns. This follows from TMA70/S29 (IH 1201).

You should always remember that an investigation will be expensive for both the Department and the taxpayer. It is good practice to review the grounds for selection before opening correspondence to confirm that they are adequate."

"Section 29 provides the statutory justification for most compliance work. If an inspector is satisfied that any return under the Taxes Acts affords correct and complete information he or she must make an assessment according to the figures returned. However, if it appears to the Inspector that there are any profits in respect of which tax is chargeable which have not been included in the return, or he or she is not satisfied with the return, the Inspector may make an assessment to the best of his or her judgement....

Section 29 also provides us with a statutory justification for the reopening of earlier years where we have reason to believe that irregularities in the return for the year under investigation are likely to have existed in previous years....

The statute talks of being dissatisfied with the return, but it can be useful to consider this from the other angle: are you satisfied? The Taxes Management Act does not give any guidance as to how you should go about satisfying yourself. A common sense interpretation is that you may make reasonable and relevant enquiries, and take into account any other information which is available. Where necessary any available statutory powers to obtain information (for example, TMA70/S20), may be used. In making enquiries your should be careful at all stages to be seen to be acting reasonably and with good cause. This does not mean you must have definitive proof of omissions from a return or accounts before embarking on the investigation. It is sufficient to be able to show some cause for dissatisfaction."

"Before you make any approach to the taxpayer or his or her agent, you should undertake a full review. Now is the opportunity to prepare proper foundations for your investigation. You should bring together all the information which is readily available about the business and its proprietor or directors. The extent of the review will depend upon how much information is available.

Once you have completed your review it is good discipline to sit back and think about your grounds for dissatisfaction .... Above all are your reasons for proceeding sufficient to justify the time you will have to invest as well as the cost and inconvenience which the taxpayer will have to bear?"

"5. Risk Assessment

5.1 There were presentations by Keith Cartwright on risk assessment in the LBO and by Chris Davidson and Ursula Crosbie on its application in City A."

"5.2 Keith Cartwright said that the principle of risk assessment - understanding what the group was about and what were the issues and risks - was not new. What the LBO was now doing, was to develop and standardise practice across all LBOs. The purpose was to identify risks to the Exchequer, then evaluate and prioritise them, and use that information to guide the deployment of resource ...."

"5.5 Chris Davidson and Ursula Crosbie reprised the modern context in which LBOs undertake risk assessment: LBOs deal with whole groups, encourage voluntary compliance, make fewer but more thorough enquiries, and aim to make progress co-operatively by meeting. Teamworking in LBOs can encompass many parts of the Revenue, and wider, but the typical core team for risk assessment was Case Director, one or more Case Managers and an accountant. There was an annual cycle, at the heart of which was the case conference held by the core team.

Unfairness, unreasonableness and improper purpose

Breach of legitimate expectations

"The suggestion has been made that the letters issued to the corporate entities exceed the powers of enquiry. This is to misunderstand the nature of the letters which have been issued. They do not constitute formal requirements to provide information. If such a requirement, under the various information provisions, were issued then there would be an opportunity to challenge the nature of the enquiry. Reference is made to section 20 and section 29 of the Taxes Management Act 1970 in the pleadings, but there are numerous other information provisions that could possibly apply depending on the accounting period concerned and the point at issue.

If such a request were made which fell outside the proper scope of an enquiry on a corporate then, the company would have an opportunity to challenge this. For instance any notice to deliver documents under section 20(1) TMA 1970 requires the consent of a Commissioner. Alternatively the Commissioners could use their own powers to request particulars or books or accounts or other documents in the course of hearing an appeal against an assessment .... In either event the use of formal information powers would allow the appropriateness of the request to be tested before the Commissioners and ultimately the courts."

"Expenditure by the state, on matters intended to be for the benefit of the population as a whole, is financed principally out of taxation. Most of the population accept that this is desirable, and appreciate the benefits derived from it, though opinions differ about its appropriate scale... While the majority of taxpayers meet their obligations with fairly good grace, some do not. It is therefore necessary for the revenue gathering Departments to have an adequately equipped armoury of coercive powers to deal with the recalcitrant minority. There are two further reasons for this. The first is simply to secure that the revenue of the state is maintained at the level which Parliament has considered appropriate and has budgeted for. The second, and no less important, reason is to secure that the burden of taxation is evenly spread. If it is not, and some people are perceived to be escaping their obligations, great dissatisfaction is likely to be aroused among the majority of conscientious taxpayers. Further, more and more of them will be inclined to become less conscientious, and to join the ranks of the evaders. Thus the tax base yield will become progressively eroded. Enforcement powers are therefore necessary not only to coerce the dishonest and the neglectful, but to encourage the honest and conscientious".

"[Tax evasion] denotes all those activities which are responsible for a person not paying the tax that the existing law charges upon his income. Ex hypothesi he is in the wrong, though his wrong-doing may range from the making of a deliberately fraudulently return to a mere failure to make his return or to pay his tax at the proper time. By tax avoidance, on the other hand, is understood some act by which a person so arranges his affairs that he is liable to pay less tax than he would have paid but for the arrangement. Thus the situation which he brings about is one in which he is legally in the right, except so far as some special rule may be introduced that puts him in the wrong."

"All enforcement procedures should be subject to ultimate judicial control both broadly and in matters of detail, and such control should be capable of being applied in a summary and expeditious way. This is the only reliable and satisfactory means of securing that the taxpayer is adequately safeguarded".

"In enacting these provisions Parliament obviously placed great weight on the position of the independent commissioner and the need for the commissioner's consent. It is important that this be given full effect."

"... an independent person entrusted by Parliament with the duty of supervising the exercise of the intrusive power conferred by section 20 ..."

"In my view, it is, initially, for the Special Commissioner to consider whether the proposed notice is, in all the circumstances, justified. In doing so it is inevitable that he will consider the burden it may impose on the [applicant] against the assistance in the performance of its statutory duties it may provide for the Revenue. The Special Commissioner will have more information than we do as well as his specialist knowledge in this field. It would, in my view, be inconsistent with the statutory provisions and premature for the court in its discretion to make an order by way of judicial review before the consent of the Special Commissioner has been sought and obtained. This point is reinforced by the fact that the [applicant] will not produce the documents sought except pursuant to a notice to which the consent necessary to its legal efficacy has been given."

" ... it is difficult to think that there could ever hereafter be a proper judicial review challenge to a precursor notice."

"[I]t seems to me that the wider the powers that Parliament confides to the commissioners, the more important it is that the commissioners should not exercise those powers in an unduly burdensome or oppressive way ..."

"a taxpayer would not be excluded from seeking judicial review if he could show that the revenue had either failed in its statutory duty toward him or had been guilty of some action which was an abuse of their powers or outside their powers altogether. Such a collateral attack - as contrasted with the direct appeal on law to the courts - would no doubt be rare, but the possibility certainly exists."

"They establish a complex of duties and discretionary powers imposed and conferred in the interest of good management upon those whose duty it is to collect the income tax. But I do not accept that the principle of fairness in dealing with the affairs of taxpayers is a mere matter of desirable policy or moral obligation. Nor do I accept that the duty to collect 'every part of inland revenue' is a duty owed exclusively to the Crown ... I am persuaded that the modern case law recognises a legal duty owed by the revenue to the general body of the taxpayers to treat taxpayers fairly; to use their discretionary powers so that, subject to the requirements of good management, discrimination between one group of taxpayers and another does not arise; to ensure that there are no favourites and no sacrificial victims."

"I am, therefore, of the opinion that a legal duty of fairness is owed by the revenue to the general body of taxpayers."

"Judicial review is available where a decision-making authority exceeds its powers, commits an error of law, commits a breach of natural justice, reaches a decision which no reasonable tribunal could have reached, or abuses its powers."

"In principle I see no reason why the [taxpayer] should not be entitled to judicial review of a decision taken by the commissioners if that decision is unfair to the [taxpayer] because the conduct of the commissioners is equivalent to a breach of contract or a breach of representation. Such a decision falls within the ambit of an abuse of power for which in the present case judicial review is the sole remedy and an appropriate remedy. There may be cases in which conduct which savours of breach of [contract] or breach of representation does not constitute an abuse of power; there may be circumstances in which the court in its discretion might not grant relief by judicial review notwithstanding conduct which savours of breach of contract or breach of representation. In the present case, however, I consider that the [taxpayer] is entitled to relief by way of judicial review for 'unfairness' amounting to abuse of power if the commissioners have been guilty of conduct equivalent to a breach of contract or breach of representations on their part."

"... I must make clear my view that the principle of fairness has an important place in the law of judicial review: and that in an appropriate case it is a ground upon which the court can intervene to quash a decision made by a public officer or authority in purported exercise of a power conferred by law."

"In so stating these requirements I do not, I hope, diminish or emasculate the valuable, developing doctrine of legitimate expectation. If a public authority so conducts itself as to create a legitimate expectation that a certain course will be followed it would often be unfair if the authority were permitted to follow a different course to the detriment of one who entertained the expectation, particularly if he acted on it. If in private law a body would be in breach of contract in so acting or estopped from so acting a public authority should generally be in no better position. The doctrine of legitimate expectation is rooted in fairness."

"The categories of unfairness are not closed, and precedent should act as a guide not a cage. Each case must be judged on its own facts, bearing in mind the Revenue's unqualified acceptance of a duty to act fairly and in accordance with the highest public standards."

" 'Unfairness amounting to an abuse of power' as envisaged in Preston and the other revenue cases is unlawful not because it involves conduct such as would offend some equivalent private law principle, not principally indeed because it breaches a legitimate expectation that some different substantive decision will be taken, but rather because it is illogical or immoral or both for a public authority to act with conspicuous unfairness and in that sense abuse its power."

"Public authorities in general and taxing authorities in particular are required to act in a high-principled way, on occasions being subject to a stricter duty of fairness than would apply as between private citizens. This approach is exemplified in cases such as R v Tower Hamlets London BC, ex p Chetnik Developments Ltd [1988] AC 858 and Woolwich Equitable Building Society v IRC [1993] AC 70 and reflected in Lord Mustill's reference in Matrix-Securities to 'the spirit of fair dealing which should inspire the whole of public life'."

"... the threshold of unfairness amounting to an abuse of power is a high one, and that the court must be careful not to interfere simply because a decision can be justifiably subject to some criticism."

"... on the one hand mere unfairness - conduct which may be characterised as 'a bit rich' but nevertheless understandable - and on the other hand a decision so outrageously unfair that it should not be allowed to stand."