The headline reads:
One of the UK’s largest employment agencies, Reed, has been found liable for up to £158 million of unpaid tax due on the salaries of thousands of temporary workers it employed, known as “employed temps”.
The Upper Tribunal has backed the First Tier Tribunal’s judgment finding that PAYE and NIC should have been paid on the entirety of employed temps’ salaries between 1998 and 2006. The ramifications of the case are enormous and you have to ask the question, how do you simply find £158m to pay HMRC?
In this week’s article, we explore the implications of the Reed Case and also look at how HMRC may enforce recovery of PAYE.
The Reed case, which is summarised at the appendices, raises a number of issues that could apply to many companies:
- Obviously and most evidently, umbrellas, agencies and other businesses that have an “employment business” will be concerned whether their dispensations are valid
- If they have salary sacrifice arrangements, whether they work. A potential employment business includes any which supplies “workers”
- For those businesses and many others with PAYE liabilities, how do you pay them and how do HMRC enforce payment? This issue may apply to those who operated:
- Employee benefit trusts
- Employer finances retirement benefit schemes
- Remuneration trusts
- Redeemable preference share remuneration planning and many others
Who is liable to PAYE?
The priority order of collection is normally:
- Third party
However, can the position be different where persons have participated in tax planning?
Persons chargeable to tax on emoluments
Section 13 ITEPA 2003 confirms that the person liable for any tax on employment income is the taxable person – broadly the person to whom the employment income relates.
An employer is drawn into the process by the regulations included in Part 11 requiring an employer to operate PAYE on PAYE employment income.
HMRC generally seek recovery of PAYE from the employer at the time the liability arose. The definition of employer may need to be considered in complex situations although “employment” is defined as “employment under a contract of service”. Whether there is an employment under a contract of service is even more complex as a recent employment status reviewed revealed!
Most PAYE liabilities are identified as part of an employer compliance review or an enquiry. The liability is normally agreed by way of contract settlement to include interest and penalties; formal assessments are not raised.
More recently where remuneration planning has been identified, HMRC protect their position by raising formal assessments (“regulation 80”).
The period covered by an assessment would normally be four years for PAYE, but if HMRC considered the employer had been careless this may extend to six years.
Where HMRC consider that there may be tax payable by an employer which has neither been paid nor certified by HMRC, they may determine the amount of that tax to the best of their judgment consequently serving a determination notice.
HMRC provide examples of taking reasonable care including:
- “Arrangements or systems (such as comprehensive internal accounting systems and controls with specific reference to tax sensitive areas) exist that, if followed, could reasonably be expected to produce an accurate basis for the calculation of tax due by the internal tax department, or external agent, and
- despite the above, inaccuracies arise in processing or coding items through the person’s accounting system which result in a mis-statement of tax liability, and
- the effect of the inaccuracies is not significant in relation to the person’s overall tax liability for the relevant tax period.”
Not much help really although it’s apparent that reasonable care is applying a modest amount of effort to get things right. The case of JR Hanson 2012 may be of more help where advisers are used. It held that relying on a competent adviser who was given a full set of facts before giving the advice is sufficient in most cases to constitute taking reasonable care.
However, where tax planning is undertaken, what level of care is reasonable? For example, if the planning is in receipt of Queen’s Counsel’s opinion, does that constitute reasonable care? The problem is further complicated in the situation of promoted tax schemes because generally, the promoter (maybe with a view to maximising profitability for themselves) generally sought one all-encompassing opinion from Queen’s Counsel. Such opinions are based on “assumed facts”, which may not apply precisely to the situation of the person entering the planning. Several questions arise:
- Would the promoter have the responsibility to draw to the attention of the user of the planning that the opinion they waived in front of them may not apply to them as it is not specific?
- Did the promoter provide separate advice which could be relied on to establish reasonable care had been taken?
- If the promoter did neither of the above, would the client have an argument that the promoter or adviser failed in their duty of care?
HMRC are likely to contend that a non-specific QC opinion does not assist the employer to evidence they have done everything to verify the position and therefore they have been careless.
Where the liability is not settled by the employer it is normally passed to the Debt Management Unit to recover. HMRC will follow a set of procedures to recover culminating in distraint over goods or assets held by the employer. If recovery by this method is not successful, the next step would be legal action in the County Court or to refer the case to the HMRC Enforcement and Insolvency Service. The result could be a petition for insolvency. The process used to take a fair amount of time although more recently, HMRC seem to be acting a lot quicker! An estimated timescale is between six months and two years.
If HMRC believe the controllers (i.e. shareholders) of the entity have removed assets or benefited personally from the payments made, recovery of the debt may be sought elsewhere.
Recovery from third parties
Where there are corporate entities under the common control, HMRC may form the view that the routing of the payments has been made to avoid employer liabilities. Scenarios where HMRC may look to recover from third parties include where:
- Funds from the third party to the employer are made to enable payments to be made
- Assets have been transferred to a third party from the employer after the event
- Assets are transferred out to a different third party also under common control
- Individuals involved have employments or hold office with the third party and that third party may be the employer
- If the employer falls within the definition of a managed service company, the debt transfer legislation can be utilised.
Recovery from third parties is not without problems (i.e. establishing evidence) and instead HMRC may seek recovery directly from the individual concerned.
If that individual is a director, case law exists that allows HMRC to pursue a director for a company debt (see CIR v Nash  EWHC 686(Ch)).
Recovery from directors
The following cases illustrate how HMRC may recover from a director:
- CIR v Nash 2003: A company went into liquidation in January 1997. One of its directors was a controlling director of a second company until December 1996, when he resigned and was succeeded by his son. He was reappointed a director in July 1997 and remained a director until that company went into liquidation in December 1997. The Revenue contended that, by virtue of Insolvency Act 1986 he was liable for the tax debts of both companies. It was held that the companies were associated within the meaning of s 216, and that the director (father) had been involved in the management of both companies at all material times.
- HMRC v Benton-Diggins: A company went into liquidation in June 2001. Its controlling director acquired the company’s assets and carried on a similar business as a sole trader. In September 2001 he incorporated a second company with a similar name, which carried on the business until it went into liquidation in September 2003. The Revenue took proceedings against B, contending that, by virtue of Insolvency Act 1986 he was liable for the tax debts of the second company. It was held that the names of the two companies were so similar that there was a probability that members of the public, comparing the names in the relevant context, would associate the companies with each other.
Both cases considered Section 216 and 217 of the Insolvency Act 1986, which broadly make a person personally responsible for all the relevant debts of a company if at any time in contravention of section 216 – using the same or similar business name. Similar provisions apply where there is wrongful trading: there can be a personal exposure where the company continues to trade where it is say insolvent. The question that arises is whether a “known” tax liability would have resulted in the circumstances of the company becoming insolvent.
Recovery from an employee
Where HMRC suspect that an employee (including directors or office holders) has entered into an arrangement with their employer to avoid income tax, they could open an enquiry under Code of Practice 8 into the personal tax affairs of the individual.
HMRC will undertake a formal enquiry into the arrangements to determine whether they believe that a proportion of the income paid to the individual was not properly subject to income tax.
If HMRC have raised assessments on the employer and the tax remains unpaid for 30 days, they can direct that an individual(s) be held responsible for the tax where:
- The payments are received knowing that the employer had wilfully failed to deduct the amount of tax which should have been deducted from those payments.
The case of R v CIR (ex p. Chisolm) 1981 defined wilful as intentional or deliberate. The principle was extended to include the view that a director receiving a payment without deduction of PAYE must have known about that failure (R v CIR ex p Sims 1987, R v CIR ex p. Keys 1987, and R v CIR ex p. McVeigh 1986).
The general position appears to be that where the directors/officers and employees are aware that PAYE is not operated and in particular where they are the recipients of payments not subject to PAYE, they have wilfully failed.
HMRC could instead issue a Reg 72 or 81 determination.
This regulation applies where tax is determined under Reg 80 and is not paid within 30 days form the date the determination is final. One of two conditions in relation to the employee need to be met. The first condition is that the Inland Revenue are of the opinion that the employee has received those payments knowing that the employer has wilfully failed to deduct PAYE. The second condition is that the unpaid tax represents an amount for which the employer was required to account in relation to a notional payment to the employee.
Reg 72 procedure
Once a Reg 72 determination is raised, HMRC forego their right of recovery from the employer: they are therefore unusual. HMRC will consider issuing a Reg 72 where code of practice 8 is issued.
The regulation applies if it appears to the HMRC that the deductible amount exceeds the amount actually deducted and one of two conditions are met.
The first is that the employer satisfies the Inland Revenue:
- The employer took reasonable care to comply with these Regulations
- The failure to deduct the excess was due to an error made in good faith
The second is that HMRC are of the opinion that the employee has received relevant payments knowing that the employer wilfully failed to deduct the amount of tax which should have been deducted from those payments.
Recovery of NIC
Similar legislation exists for the recovery of NIC, although it should be noted that seeking recovery from an individual for an employer’s liability may be problematic. For example to issue a personal liability notice, the evidence must demonstrate the loss is attributable to a fraud or neglect on part of an officer of the company.
Appendix One: The Reed Case:
The case involved members of the Reed group of companies (and Reed Health Limited which was not within the group), which broadly carried on business as employment agencies, for ease we refer to them collectively as “Reed”.
Reed acted as:
- An employment agency placing permanent staff: workers who become employees of the agency’s client
- An employment business providing temporary employees: workers who undertake work for the agency’s clients, usually for a short period and do not become employees of the client
The case concerned Reed’s activities as an employment business.
A temporary employee may be either a self-employed person or an employee of the employment business. Self-employed persons are generally referred to as “agency workers”. Reed acted for agency workers and as principal for its employed temps.
The tax treatment is set out within section 44 of ITEPA 2003. Broadly, agency workers are treated for PAYE purposes as if they were employees of the agency through which they obtain engagements (the treatment is different where one of the exclusions applies for example there is no right of supervision etc.). There are similar provisions in respect of NIC.
Since 1995, the majority of Reed’s temporary employees were employed. Reed had not engaged agency workers since 2001 and Reed Health ceased to engage agency workers in 2004. Reed had employed its temporary employees so they could benefit from the tax provisions relating to profit-related pay (“PRP”). [We want to start a campaign to reintroduce PRP].
Reed made payments to its employed temps, described as allowances:
- Reed Travel Allowance (RTA), which was replaced in 2002 by
- Reed Travel Benefit (RTB)
RTA and RTB were designed to reimburse employed temps the cost of travel to their places of work and to provide a subsistence payment. Reed had sought and obtained a dispensation from HMRC in accordance with what is now s 65 of ITEPA. Reed took the view that the arrangements that it had implemented, coupled with the dispensations, meant allowances were:
- Not within PAYE
- Exempt from NICs, and therefore
- Paid the allowances gross
By 2004 HMRC were not content about the treatment and the last dispensation was revoked with effect from 6 April 2006. Reed thereafter adopted a different arrangement.
Broadly, the employed temps made a salary sacrifice in exchange for the allowances, the consequence of which was that the allowances were not earnings. The allowances reflected the employed temps’ tax-deductible expenses and were paid gross.
HMRC’s contested that:
- Contracts did not provide for an effective salary sacrifice
- There was no such sacrifice as a matter of fact
- Allowances did not represent the reimbursement of expenses
- Allowances were simply part of the employed temps’ salary
- The expenses were not deductible
- No reliance could be placed on the dispensations to avoid a liability
The Upper Tribunal were satisfied that:
- The allowances were Chapter 1 earnings (despite the dispensation)
- That even if that conclusion is wrong they were Chapter 3 earnings, which did not attract relief because they were paid to reimburse ordinary commuting expenses
- Tax and NICs should have been accounted for on the allowances