Churchill Knight & Boox clients being investigated as Managed Service Companies

[Guy Incognito]

So HMRC have confirmed that the DEP (Deemed Employment Payment) is to be calculated based on payments to the individual, rather than on payments to the company (alleged MSC).

1. Where has this been confirmed? All the calculations I have received from HMRC use the payments to the company.

2. Are HMRC treating payments to pension schemes as 'payments to the individual'?

[Guy Incognito]

For (2) the question is when the dividend is considered to have been paid. If it's considered to have been paid in the same tax year then this possibly goes against the idea of legislation (where every payment is an employment payment).

Maybe I have misunderstood what you are asking, I don't think this question makes sense?

Dividends are paid on the date they are paid, nothing is going to change that.

[PurelyBlue]

I went back to the legislation and I think I can answer my own question. 61H (4) says:

Relief under this section is given by setting the amount of the deemed employment payment against the relevant distribution so as to reduce the distribution.

The original dividend is DEP + employer's NI, so this means the dividend is recalculated to remove the DEP part, but not the employer's NI, and therefore there is still a dividend (and tax on it).

Corporation Tax Act 2009 Section 141 (2) specifies tax relief for MSCs. It says:

A deduction is allowed for—
(a)the amount of the deemed employment payment, and
(b)the amount of any employer's national insurance contributions paid by the MSC in respect of it.

However be aware it also says:

If the MSC is a firm, the amount of the deduction allowed under subsection (2) is limited to the amount that reduces the profits of the firm of the period of account to nil.

So if you were paying dividends out of retained profits rather than profits in that accounting period then it looks like you could be double taxed.

I can therefore update my diagram:


Now that I think I have some clarity about the calculation, I'm working on a model to get a ballpark estimate for the net tax liability (i.e. if MSC applied) for a tax year.

[jamesbrown]

1. Where has this been confirmed? All the calculations I have received from HMRC use the payments to the company.

2. Are HMRC treating payments to pension schemes as 'payments to the individual'?

The former is pretty straightforward, I think. The legislation and HMRC’s internal manual are clear that its payments made to the individual. The explanation for the behaviour seen is that HMRC didn’t care about the accuracy of their calculations (or even have the information to do so), merely timeliness, and the maximum possible liability is the one they’ve chosen. They may even argue, provisionally, that the legislation says the opposite of what it actually says. Either way, the outcome on this one is clear.

On your second point, they seem to be arguing this, but I think the outcome here is less clearcut and will probably be argued at tribunal with myriad other things.

[woody1]

I seem to recall someone saying a while back that HMRC weren't allowing people to settle.

Is that still the case? It would be extraordinary if, after nearly 2 years since opening enquiries, they still weren't allowing settlements.

It wouldn't prejudice someone's position to ask HMRC for a settlement calculation. That's probably the only way you're going to find out what they really think you owe.

ps. if they refuse to provide a settlement calculation, you could ask your MP to request one on your behalf.

[PurelyBlue]

1. Where has this been confirmed?

I was told that directly and clearly by HMRC, and as James Brown says, it is straightforward when you look at the legislation and HMRC manual.

Looking at the legislation, note the difference between Chapter 8 (which you might call 'old IR35'), which in 54(1) says:

"Find (applying section 55) the total amount of all payments and benefits received by the intermediary in the year in respect of the relevant engagements, and reduce that amount by 5%."

And compare that against Chapter 9 (MSC), which in 61E(1) says:

"Find (applying section 61F) the amount of the payment or benefit mentioned in section 61D(1)(b)."

With 61D(1)(b) saying:

"the worker, or an associate of the worker, receives (from any person) a payment or benefit which can reasonably be taken to be in respect of the services"

All the calculations I have received from HMRC use the payments to the company.

I think they're assuming that all of the profit the company made (after corp tax) was paid out in dividends, then they apply the Deemed Employment Payment calculation to that. They have repeatedly said that these are preliminary figures, though it may be convenient for them to have the largest possible figures (well, actually you can get larger figures by paying out retained profits from previous years). Of course, they don't mention the tax relief outlined by the legislation (see my previous comment), which is substantial.

2. Are HMRC treating payments to pension schemes as 'payments to the individual'?

I don't know, but in my view when it comes to 61D(1)(b), i.e. working out the Deemed Employment Payment, I wouldn't expect that it matters because the pension contributions wouldn't be taxable if this was an ordinary employment relationship anyway.

On the other hand, I think it is an open and very relevant question about whether employer pension contributions count as "payments" for the purposes of 61B(1)(b):

"payments are made (directly or indirectly) to the individual (or associates of the individual) of an amount equal to the greater part or all of the consideration for the provision of the services"

So we have two uses of "payments" here:

1. Condition for MSC to apply (61B(1)(b)): "payments are made (directly or indirectly) to the individual (or associates of the individual) of an amount equal to the greater part or all of the consideration for the provision of the services"
2. Calculation of DEP (61D(1)(b)): "the worker, or an associate of the worker, receives (from any person) a payment or benefit which can reasonably be taken to be in respect of the services"

And I don't know whether pension contributions count for either/both.

Maybe I have misunderstood what you are asking, I don't think this question makes sense?

I was trying to resolve the situation of money having been paid out to the individual even though (after tax relief) it should've been held by the company. In order words, if a company hypothetically paid low salary & high dividends, but then changed its mind and said it's an MSC and requested tax relief (therefore cancelling the dividends and replacing them with salary), it could end up having overpaid the individual (i.e. money sitting in the individual's account which should be company money).

But with consideration of 61H(4), the dividend isn't cancelled but just reduced, and only reduced by the amount of the DEP, so the dividend is now equal to the employer's NI on the DEP (about 12% of the original dividend). This means that the total gross amount paid out to the individual is the same, only now most of it is salary, with a much lesser portion for the dividend.

[PurelyBlue]

I seem to recall someone saying a while back that HMRC weren't allowing people to settle.

Is that still the case? It would be extraordinary if, after nearly 2 years since opening enquiries, they still weren't allowing settlements.

You may be surprised that HMRC probably doesn't actually want us to settle.

Instead HMRC wants to go to tribunal and have the argument tested, and probably cares much less about collecting tax from clients of Boox and Churchill Knight. Specifically, I imagine they want to test the precedent from the Costelloe case to see if they can use this to launch a broad attack on accountants for PSCs.

The perception of HMRC may be that the accountants are making it easier for ordinary individuals to operate companies, and therefore driving them out of business, or turning them into more generic accountants (i.e. no marketing/promoting to PSCs), will reduce the scale of the problem perceived by HMRC.

However this approach is likely doomed. Firstly because they will most probably lose the MSC case (as far as I can tell their key argument is around the meaning of 61B(2)(a): "benefits financially on an ongoing basis from the provision of the services of the individual"), but secondly because even if they do win, over time PSCs will move to generic accounting software tools such as FreeAgent, Xero, etc. that render the MSC approach ineffective.

I suppose you could generously say that if HMRC genuinely believed that clients of Boox and Churchill Knight are MSCs (i.e. they really were controlled by the accountants), then this approach would naively seem effective to them, and therefore they may have been surprised to find that this isn't the case for many (if not all) clients. However you would then expect to see significant concessions, which we haven't seen yet.

Personally I expect this case to go on for a long (long) time, with appeals up through the first tier tribunal, upper tribunal, court of appeal, etc. until we have a clear idea about the meaning of the MSC legislation and how broadly it can apply.

It wouldn't prejudice someone's position to ask HMRC for a settlement calculation. That's probably the only way you're going to find out what they really think you owe.

It's unlikely to be that easy though, partly because the DEP calculation is complex, but also because it's a calculation specific to every individual, and HMRC likely lacks the resources to do this calculation thoroughly and correctly for the thousands of individuals affected. In theory, however, we can do the calculation ourselves and put it to HMRC, which is what I'm working on for my case (and hopefully my explanations are useful for others).

[woody1]

It's unlikely to be that easy though, partly because the DEP calculation is complex, but also because it's a calculation specific to every individual, and HMRC likely lacks the resources to do this calculation thoroughly and correctly for the thousands of individuals affected.

I thought as much, which is why it might give them a bit of a problem if a Member of Parliament requested this on behalf of a constituent.

[jamesbrown]

Specifically, I imagine they want to test the precedent from the Costelloe case to see if they can use this to launch a broad attack on accountants for PSCs.

This is unequivocally the goal and it became pretty clear early on why CK and Boox were chosen in pursuit of that goal. That isn’t to say it’s likely to succeed, but there should be no doubt about the goal, which is why everyone that continues to leverage the services of a particular type of online contractor accountancy should take this very seriously (as clients of CK and Boox will surely attest, the pain begins long before the legal position is clear).

[PurelyBlue]

I've been working on a model to give an idea of how much the overall net tax liability could be, taking into account tax relief specified in Income Tax (Earnings and Pensions) Act 2003 Section 61H ("Relief in case of distributions by managed service company") and Corporation Tax Act 2009 Section 141 ("Deduction for deemed employment payments").

The model assumes:

* Tax year is 2018/19 (middle year of MSC inquiry period)
* Company accounting period is aligned to the tax year
* Salary is set at employer's NI threshold (in 2018/19 this was £8424)
* Any remaining company profit in the tax year is paid out as dividends
* There are no expenses paid to the individual or any expenses are permitted under 61E(1) ("any expenses met by the worker that would have been deductible from the taxable earnings from the employment")

Using this and my calculation method described previously, I have determined the tax before (PSC, i.e. not MSC) and after (MSC), and thus the net liability, for £1000 increments of a total Salary+Dividends figure (so the gross amount received in payments by the individual from the company) and plotted this data in a graph:



As you can see, there is little additional difference once the Salary+Dividends figure hits the Higher Rate threshold (as expected). Also, there's a small oddity around that threshold which is just caused by the Dividend Allowance. Note that the tax figures here (Y axis) include corporation tax, but X axis is the gross payments received by the individual (so overall company turnover to support this will be greater).

In summary if the calculations are correct it appears that the net liability is about £5,000 if the individual received £50,000 (again, Salary+Dividends), and increasing to around £6,000 if the individual received £100,000. Interest would then also need to be applied, which I think is about 20% but obviously increasing as time progresses, though note that it's simple interest, not compound interest.

Of course this model is heavily simplified. If you have expenses that would now be taxable, this would increase the liability, plus they could also push you into a higher tax bracket.