THE taxman has launched a sophisticated crackdown to catch people making profits in the virtual 3D world Second Life without paying their due.

The Revenue & Customs is concerned that thousands of individuals are using the life-simulation game to sell virtual items to generate real-money profits and not paying the proper taxes.

Tax inspectors are using a new high-tech snooper computer system called Xenon to scan the site, which has 35,000 regular users in the UK. They are even rumoured to have created their own Second Life characters to patrol the virtual world and root out tax evaders.

It is not just real-money profits that are being eyed. The Revenue said it will even target profits made within the virtual world.

It said: “Even if there is no cash transaction you could still be taxed on the profit or gain. The virtual aspect is a red herring. If someone is running a business, then they are required to register with us and pay tax on that business.”

More than 13,000 people now make some sort of a living from Second Life, and the numbers are growing. In July, 145 players earned more than $5,000 (£2,480) a month on the site, up from 116 in February. A further 5,384 earned $100 or more.

Accountants believe that many people start making money on Second Life as a bit of fun, so are unaware that tax is due. But they are being warned that if they don’t declare their profits there could be hefty penalties and interest charges, as well as a bill for unpaid tax.

The Revenue said: “Our primary target lies with traders who are running a business on Second Life. The same tax rules apply to internet trading as to any other form of trading and our compliance approach remains the same.”

Second Life allows its residents to create a character, called an “avatar”, who can set up a business or buy and sell items like property much as they would in the real world. It is possible to create virtual versions of almost everything from clothes to nightclubs.

Although players have to use “Linden dollars” to buy and sell within the game, these can be converted to real cash using a special exchange – currently about 270 Linden dollars to one real one – enabling individuals to make an actual profit.

Last year, Ailin Graef, an American who created the virtual property magnate Anshe Chung, became the first person to have made more than $1m through the game.

Although Second Life is the most popular virtual world, users of other games such as Entropia Universe are also in the Revenue’s sights. Entropia is about to launch a cash card enabling users to convert virtual dollars into real ones at high-street cash machines or anywhere that takes Mastercard.

The penalty for hiding tax that should have been paid is a fine of up to 100% of the unpaid tax plus payment of the tax itself and interest. You could also be fined £100 for failing to tell the Revenue that you are trading.

Accountants say that the Revenue is getting increasingly skilled at tracking down individuals who are using the web to make a “bit on the side”. The Xenon “bot” is also being used to identify people making money from eBay and other auction sites.

The Revenue is secretive about the methods it intends to use to spot evasion on Second Life, raising the question of how it will link imaginary digital characters to British taxpayers. But that does not mean that it will not be able to track you down.

Matt Coward at Blick Rothenberg, an accountant, said: “With technology improving all the time, the Revenue may be able to track funds transferred between Second Life accounts and real bank accounts. It regularly calls on various information sources to monitor taxpayer compliance, and webspiders are another weapon in its armoury.

“Revenue & Customs can even demand that the site hand over records, including contact details which you need to enter to register, though with games like Second Life there are issues of jurisdiction if the information is held outside the UK.”

The Revenue is not after individuals who make one or two transactions for a small gain, although you must pay tax on profits that are greater than the annual capital gains tax allowance of £9,200. However, if it regards what you do as a business, you could face a big tax bill.

Anyone in doubt about whether they are liable for tax can contact the Revenue or take professional advice. Owning up will help to reduce penalties.