False Consultation on Self-Employment
(No, this is not a typo.)
The Onshore Employment Intermediaries: False Self Employment Consultation closed on Tuesday 4 February, and HMRC will now no doubt spend the next couple of weeks frantically ignoring everybody’s legitimate concerns.
OK, cynicism aside, HMRC have at least published some further guidance concerning how the proposed new legislation (the new Section 44 ITEPA) may impact on Personal Service Companies (PSCs). We’ll also refer to them here as ‘freelancers’: because that is what individuals genuinely in business on their own account working through a limited company would be more likely to call themselves, and that is who we should be focussing on when considering the potential unintended damaging consequences of this legislation.
On 30 January HMRC updated the consultation page with a document setting out its view on the interaction of the proposed new legislation and IR35, and freelancers more generally, ostensibly in response to concerns raised so far during the consultation process.
A careful study of the content and the language of this document adds weight to the legitimate concerns of many that PSCs are not necessarily the ‘safe haven’ from the new Section 44, and that damage could be done to world of freelancing and beyond.
The first interesting thing about this note is the acknowledgement that the new Section 44 applies “…to any structure interposed between the person in receipt of the worker’s services (the engager) and the worker”. In other words, this legislation does not just affect agencies, and this supports our concerns on how this legislation could damage the construction industry subcontractor supply chain.
In their note HMRC then set out the test, and say why they do not think it will apply to freelancers as follows:
• the worker personally provides, or is personally involved in the provision of, services to another person as a consequence of a contract between that person and a third person;
• the manner in which the worker provides the services is subject to (or to the right of) supervision, direction or control by any person.
• remuneration is received by the worker in consequence of providing the services; and
• that remuneration does not constitute employment income apart from under the Agency legislation.
HMRC have subtly but significantly misrepresented the second test here – the important point is that PAYE applies unless it can be shown that there is no supervision, direction or control. This is not mere hair-splitting. Aside from the fact that the legislation imposes a requirement on a party to prove a negative in order to avoid PAYE, the problem here is that in a typical freelancer situation the decision (and hence the PAYE burden) is not in the hands of the freelancer, but the agency. This means that however confident a freelancer may be about the lack of control, it is the agency whose neck is on the line. Will agencies countenance the risk of backdated PAYE, NIC, interest, exorbitant penalties and potential loss of gross payment status even where there is a lack of control?
However, this is largely beside the point for our present purposes, as most freelancers won’t be drawing income from their own company on a self-employed basis. That’s impossible, isn’t it?
Well, let’s review HMRC’s own guidance in the Employment Status Manual at paragraph 1096:
“It is perfectly possible for an employee or a director of a company to provide services quite legitimately to that company in a separate capacity. For example, the individual could be carrying on an established business as a solicitor, estate agent, accountant or some sort of consultant whereby services are supplied to the company on terms similar to those given to other customers. In these cases the payment for the services would not be income from an office or employment assessable under Schedule E/chargeable as employment income or subject to Class 1 NICs.”
Or from the Employment Income Manual at paragraph 730:
“It is possible for an employee of office holder to tender for work outside their normal duties, not as an employee or office holder but as a self-employed contractor…”
OK, so technically it is possible for a director/shareholder to draw income on a self-employed basis from their own company, but it never actually happens, does it? Chartergates clients with good memories may recall an interesting case from last year in which this is precisely what HMRC argued: Maureen Hepburn v HM Revenue & Customs (see our newsletter 13/9/2013). Miss Hepburn drew £2,385,000 out of the limited company of which she was a director and 80% shareholder, ostensibly as a consultancy fee to another company she had yet to form – HMRC argued it was her own self-employed income (spoiler alert: they lost).
Perhaps this is just the exception though, and what we really need to ask ourselves is why a director/shareholder would want to draw fees out of their own company on a self-employed basis. Well, how about because after 6 April 2014 they will no longer be liable for the PAYE – the agency will…
In addition, take the perfectly legitimate and not uncommon scenario whereby a freelancer engages a self-employed consultant to assist with a client project. Unless the freelancer (and/or the agency) can meet the burden of proving no right of supervision, direction or control exists, this would definitely be caught by the proposed new rules, and PAYE would be due.
Let’s move away from the world of academic argument and speculation, and into the much more typical world of salary and dividends. Surely HMRC’s note confirms that dividends are not ‘remuneration’ and therefore they are safe from being classified under the new Section 44 as PAYE?
Welcome to the wonderful world of HMRC caveats. I count five in this statement from the document, and its associated footnote:
“…dividends paid to the worker as a genuine consequence of their shareholding in the PSC will not normally fall within the new Agency legislation”
Footnote: “Genuine dividends from the PSC would not normally be considered to be remuneration for the purposes of the Agency legislation. However in cases of avoidance there may be instances where HMRC argue that these payments are remuneration either as general earnings or as remuneration for the purposes of the Agency legislation.”
It is hard to imagine dividends that are not paid as a genuine consequence of a shareholding (is there any other way to pay a dividend?). Assuming what HMRC are referring to here is purported dividends where there are no minutes or evidence of them being properly voted, or cases of insufficient profits to pay dividends, there are potentially a significant number of cases where HMRC could argue that the ‘dividend’ exemption from the new Section 44 is not met, and PAYE is due.
With regard to the footnote, we all know that HMRC’s definition of ‘avoidance’ is pretty much anything that doesn’t result in them receiving the maximum possible tax take, but in this context it is unclear in what circumstances HMRC will consider even genuine dividends to constitute remuneration for the purposes of the new Section 44. It is clear that this cannot simply refer to IR35 avoidance, as this deems dividends to be income from employment (which is excluded under the fourth bullet point above).
Once again, the real issue here is that employment agencies are on the line for these unspecified potential problems within PSCs – problems which will be outside the agencies’ control and also most likely their sphere of knowledge. It is unclear what level of due diligence is required, and where there is doubt and the stakes are potentially so high there could be a damaging impact on the world of freelancing.
Even with these words of very limited comfort from HMRC, as we have seen with IR35 once HMRC gets it hands on a new piece of legislation it can act like a child with a new toy and apply it in ways that were never originally envisaged.
Whatever the outcome of the consultation, it is clear that post-April 2014 employment agencies will need to consider much more carefully their interaction with all forms of intermediary, not only because of this proposed legislation but also because of the new rules for offshore intermediaries.
We are advising our agency and intermediary clients on the best forms of protection and compliance – 6 April 2014 is just around the corner so contact us if you are affected by this proposal.