The UK is missing out on billions of pounds of revenue each year from small retail businesses that exploit weaknesses in government systems to evade paying tax, the public spending watchdog has warned. The National Audit Office (NAO), which monitors tax and spending by the government, said the trail of tax debts left by small retailers was widespread and increasing every year. Chains of retail shops have become expert at growing quickly while paying almost no tax and then becoming insolvent without settling their debts with the tax authority, leaving the government out of pocket. HMRC estimated that small businesses accounted for 81% of the £5.5bn lost due to tax evasion in 2022-23, up from 66% in 2019-20. The NAO said the situation had worsened significantly since 2011 when companies were allowed to register online with Companies House, including from overseas jurisdictions. HMRC has targeted sweet shops and takeaways, but is unlikely to have much success until safeguards due to be introduced by Companies House come into effect, the NAO said. Labour vowed before the election to crack down on “dodgy” candy stores, which had notably proliferated on London’s Oxford Street before a recent fall. The NAO said retailers had been able to process payments without declaring them, a practice known as electronic sales suppression (ESS). Types of sales suppression include creating “dummy” sets of accounts, or running tills on training mode. The businesses then go bust to avoid paying tax debts. In a scam known as phoenixism, the rebranded shops then begin the process of trading again as essentially the same company, often with a slightly different name, earning the owners millions of pounds in tax-free profits. Gareth Davies, the head of the NAO, accused HMRC of lacking an “effective strategic response” to a form of tax evasion that has been growing among small businesses. “Its assessment of risks has given too little emphasis to widely used methods of evasion such as sales suppression and phoenixism. It has also failed to use new powers to tackle tax evasion.” He added: “Tackling tax evasion is not a straightforward task. But real opportunities exist for HMRC to work more systematically across government to reduce it. Tighter controls and more compliance work could raise significant sums and improve value for money.” The report said: “As well as raising public funds, reducing tax evasion encourages a level playing field between businesses by denying evaders an unfair competitive advantage.” The chancellor, Rachel Reeves, has previously said a centrepiece of her strategy to raise more funds was a clampdown on tax evasion and avoidance. Before the July election, she said Labour would launch a £5bn crackdown on tax avoiders, warning households and businesses that the party was prepared to adopt tough measures to tackle tax fraud and non-compliance. Reeves said the funding would be used to pay for free school breakfast clubs and additional NHS appointments. HMRC estimated that phoenixism alone accounted for 15% of its tax debt losses in 2022-23 – equivalent to more than £500m. However, the Insolvency Service disqualified only seven directors specifically for phoenixism between the years 2018-19 and 2023-24, out of a total of 6,274 disqualified directors. The campaign charity Tax Justice UK said HMRC had suffered from many years of underfunding and outdated IT systems that hampered its efforts to tackle tax fraud. Sara Hall, the charity’s deputy director for external affairs, said: “It is no wonder that billions of pounds of tax is evaded each year. Providing the tax office with the resources it needs will enable it to collect significant sums that can help repair public finances and invest in the NHS, local councils and the key services we all rely on.” Davies said “significant gaps remain in checks around online retailers”, and overseas companies continued to falsely present themselves as UK-based to evade VAT. HMRC estimates that it collects at least £1.5bn more in VAT a year from online marketplaces since making them liable for VAT in 2021 – five times what it initially predicted. Tighter registration requirements at Companies House took effect in March 2024. But the report said planned extra measures, such as verifying directors’ identities, were much needed.