.png)
.png)
14 March 2001
When Is PAYE In Point?
DAVID REILLY BA(Hons), FCA, FTII tries to understand the Revenue's motivation in a recent pay-as-you-earn case.
'THEN YOU SHOULD say what you mean,' the March Hare went on.
'I do,' Alice hastily replied. 'At least – at least I mean what I say – that's the same thing, you know.'
'Not the same thing a bit!' said the Hatter. 'You might just as well say that “I see what I eat” is the same thing as “I eat what I see”!'
DAVID REILLY BA(Hons), FCA, FTII tries to understand the Revenue's motivation in a recent pay-as-you-earn case.
'THEN YOU SHOULD say what you mean,' the March Hare went on.
'I do,' Alice hastily replied. 'At least – at least I mean what I say – that's the same thing, you know.'
'Not the same thing a bit!' said the Hatter. 'You might just as well say that “I see what I eat” is the same thing as “I eat what I see”!'
When Is PAYE In Point?
DAVID REILLY BA(Hons), FCA, FTII tries to understand the Revenue's motivation in a recent pay-as-you-earn case.
'THEN YOU SHOULD say what you mean,' the March Hare went on.
'I do,' Alice hastily replied. 'At least – at least I mean what I say – that's the same thing, you know.'
'Not the same thing a bit!' said the Hatter. 'You might just as well say that “I see what I eat” is the same thing as “I eat what I see”!'
'You might just as well say,' added the Hapless Employer, 'that “the tax is due under pay-as-you-earn and not from the employee” is the same thing as “the tax is due from the employee and not under pay-as-you-earn”!'
All right, so I made up the last bit, but what on earth has the Mad Hatter's tea party got to do with pay-as-you-earn? Well, quite a lot, it appears, as the Revenue seems to have become as confused as Alice. Let me explain.
Compare two scenarios. In the first, an employer decides to award a bonus to an employee in 1998, but imposes a condition that the bonus is in the form of a transfer of an asset. However, the bonus is first expressed in monetary terms. For technical reasons (the lack of an extra-ordinary general meeting), the original contract awarding the bonus is voidable at the instance of the company, but is subsequently ratified. When the asset is transferred to the employee, it is immediately sold for cash.
In the second scenario, an employer decides to award bonuses to employees in 1989 and 1990, but imposes a condition that the bonuses are in the form of transfers of assets. However, the bonuses are first expressed in monetary terms. For technical reasons (whether a director has ostensible authority to bind the board of directors), there is a question over whether the employees are entitled to the bonuses, but the board subsequently ratifies the acts of the director. When the assets are transferred to the employees, they are immediately sold for cash.
So far so good. In fact, the taxpayers and the Revenue both agree that tax is due under Schedule E. As you might guess, however, there is then a dispute about whether pay-as-you-earn should have been applied to the bonuses under section 203, Taxes Act 1988. This question is put in each case to the Special Commissioners and in each case the decision is that tax should have been accounted for under pay-as-you-earn.
In the first case, the Special Commissioners said:
'Our decision … is that payment does not mean only payment in money but also includes payment of a perquisite or profit that can be turned into money. That means that there was a payment … and the company should have deducted tax from the payment.'
In the second case, the Special Commissioner was asked to answer a different question to determine liability (which I shall return to later), but said after dealing with that question:
'However, in my view it would have been possible to approach the appeal from another direction with the same result. Section 203 applies to all payments of emoluments; the word “payments” is not restricted to payments of cash; the word “emoluments” includes perquisites or profits; the words “perquisites or profits” include anything that can be turned into money (whereas anything that cannot be turned into money is a benefit in kind strictly so called); the [assets] could be, and were, turned into money and so they were perquisites or profits; and perquisites or profits can be paid (although benefits in kind cannot be paid). It follows that the [assets] were emoluments and they were paid. For that reason also section 203 applies.'
There is a reason why the two quotes above are so similar in approach. Dr Nuala Brice was one of two Special Commissioners in the first case, Paul Dunstall Organisation Ltd (SpC 179) reported by David Whiscombe in Taxation, 4 February 1999 at pages 429 to 430, and she sat alone in the second case, Black, Brown, Green and White (SpC 260) reported in Taxation, 21/28 December 2000 at page 323.
You might ask why I am writing about the latter case when all that has happened is that, on the basis of materially similar facts, the same conclusion has been reached. The reason is that the Revenue, having already spent lots of taxpayers' money to take the first case to the Special Commissioners on the basis that pay-as-you-earn was clearly due, decided in the second case to spend more taxpayers' money to argue that the individuals should be taxed through Schedule E assessments on the basis that they received benefits in kind. This seems to me to be a cynical exploitation by the Revenue of its tax gathering powers. Surely it is not acceptable for a Government body to hold contradictory views simultaneously about the same issue. The Revenue's argument was couched in technical terms to try to distinguish (without mentioning) Dunstall. Readers may think that this approach is fair enough and that I am missing the point. Indeed, the latter could be a valid proposition, but until so convinced, I am very uneasy about the Revenue's approach.
The agreed points of law
Whatever compelled the Revenue to act as it did, the agreed interpretation of the law is interesting. The agreed points of law were:
the word 'payment' in section 203, viz. 'payment of, or on account of, any income', was not limited to payments of cash but could include transfers of valuable consideration such as cheque payments and credit transfers;
the word 'emoluments' in Regulation 2 of the Income Tax (Employments) Regulations 1993 meant the full amount of any income to be taken into account for Schedule E purposes;
the word 'emoluments' encompassed the cash equivalent of benefits in kind, but not all benefits in kind, e.g. the provision of a car, involve a payment. For section 203 and Regulation 2, payment was the transfer of money or money's worth and it was critical to determine when the entitlement to the payment arose. If, prior to the transfer of assets, the recipient had no legal entitlement to the money, the transfer would not amount to a payment. There would need to be a pre-existing legal entitlement to money or money's worth before there could be a payment;
there would only be a requirement to deduct income tax from a payment of emoluments where the employee had a legal entitlement to actual payment of a monetary amount. It was not enough that the employee preferred or expected cash or even that the award was discussed in cash terms before being made by way of a benefit.
I have no difficulty with the first two points or the first sentence of the third point. I am not clear, however, why the taxpayers accepted that the transfer of money's worth – insofar as this gives rise to a pay-as-you-earn liability – automatically covers the transfer of assets unless there is no pre-existing legal right to a payment of a monetary amount. Perhaps something in Dunstall led the taxpayers to conclude that this point, having been fully considered, was now settled. The Revenue's Schedule E Manual at paragraph 12003 seemed to confirm this point, stating that the Revenue's case (leaving aside the Ramsay point) was that '… a “payment” for pay-as-you-earn includes a transfer of an asset where that transfer satisfies a pre-existing entitlement to money …'. I therefore read the full transcript again and could not find this argument. In fact, the Special Commissioners said that the issue for determination was whether the word 'payment' meant only 'payment in money'. So why was the point agreed in the second case, if indeed it was decided in Dunstall?
The Revenue's argument
Returning to the second case, counsel for the Revenue argued that, because the taxpayers could not sue for an ascertained amount of money, they received benefits in kind and were liable to tax under Schedule E on the cash equivalent of those benefits in kind. He said that this was based on the fact that the director who contracted with the taxpayers about their bonuses had no actual authority to do so and that the board had not indicated – 'held out in legal terms – that he had ostensible authority to bind the board.
Counsel for the Revenue relied on the non-tax case of Freeman & Lockyer v Buckhurst Park Properties (Mangal) Ltd [1964] 1 All ER 630 in support of this view. Counsel for the Revenue concluded that the bonuses were discretionary and that the entitlement arose only on their receipt. On all occasions the taxpayers had agreed to accept their bonus in the form of assets and thus they received benefits in kind.
Based on this argument, the Special Commissioner said that she had two questions to answer. Firstly, whether the director had authority to bind the company and secondly whether the taxpayers had a pre-existing entitlement to money or money's worth quantified in an amount of money. She answered both questions in the affirmative and concluded that, for this reason, pay-as-you-earn was due. She then explained her alternative reason why pay-as-you-earn was due, as quoted above.
Other unanswered questions
We are not told why the Revenue decided to pursue the employees in this case. Generally, the Revenue seeks pay-as-you-earn from the employer – even where there seems to be a case for shifting the onus to the employee under the 1993 Regulations. It may be because the employing company had no money and that the pursuit of pay-as-you-earn would be pointless. However, this does not seem to explain why the Revenue issued assessments on the company for pay-as-you-earn (under what is now Regulation 49 of the 1993 Regulations – see 'Trouble with the Taxman? – IV' by John Nisbet and myself in Taxation, 27 May 1999 at pages 222 to 224), but later withdrew these. Why did the Revenue do this, and when? The company appeared to be profitable in 1990, and while it is true that companies can collapse overnight, was that the case here?
If you or a client have been involved in similar arrangements that you previously thought were safe – and which are squarely outside the scope of the anti-avoidance legislation – the biggest unanswered question for you must be which way will the Revenue jump if it looks at your case?
David Reilly is a senior manager in the PricewaterhouseCoopers' employment tax solutions team. He can be contacted on 020 7213 8716 and david.j.reilly@uk.pwcglobal.com.
DAVID REILLY BA(Hons), FCA, FTII tries to understand the Revenue's motivation in a recent pay-as-you-earn case.
'THEN YOU SHOULD say what you mean,' the March Hare went on.
'I do,' Alice hastily replied. 'At least – at least I mean what I say – that's the same thing, you know.'
'Not the same thing a bit!' said the Hatter. 'You might just as well say that “I see what I eat” is the same thing as “I eat what I see”!'
'You might just as well say,' added the Hapless Employer, 'that “the tax is due under pay-as-you-earn and not from the employee” is the same thing as “the tax is due from the employee and not under pay-as-you-earn”!'
All right, so I made up the last bit, but what on earth has the Mad Hatter's tea party got to do with pay-as-you-earn? Well, quite a lot, it appears, as the Revenue seems to have become as confused as Alice. Let me explain.
Compare two scenarios. In the first, an employer decides to award a bonus to an employee in 1998, but imposes a condition that the bonus is in the form of a transfer of an asset. However, the bonus is first expressed in monetary terms. For technical reasons (the lack of an extra-ordinary general meeting), the original contract awarding the bonus is voidable at the instance of the company, but is subsequently ratified. When the asset is transferred to the employee, it is immediately sold for cash.
In the second scenario, an employer decides to award bonuses to employees in 1989 and 1990, but imposes a condition that the bonuses are in the form of transfers of assets. However, the bonuses are first expressed in monetary terms. For technical reasons (whether a director has ostensible authority to bind the board of directors), there is a question over whether the employees are entitled to the bonuses, but the board subsequently ratifies the acts of the director. When the assets are transferred to the employees, they are immediately sold for cash.
So far so good. In fact, the taxpayers and the Revenue both agree that tax is due under Schedule E. As you might guess, however, there is then a dispute about whether pay-as-you-earn should have been applied to the bonuses under section 203, Taxes Act 1988. This question is put in each case to the Special Commissioners and in each case the decision is that tax should have been accounted for under pay-as-you-earn.
In the first case, the Special Commissioners said:
'Our decision … is that payment does not mean only payment in money but also includes payment of a perquisite or profit that can be turned into money. That means that there was a payment … and the company should have deducted tax from the payment.'
In the second case, the Special Commissioner was asked to answer a different question to determine liability (which I shall return to later), but said after dealing with that question:
'However, in my view it would have been possible to approach the appeal from another direction with the same result. Section 203 applies to all payments of emoluments; the word “payments” is not restricted to payments of cash; the word “emoluments” includes perquisites or profits; the words “perquisites or profits” include anything that can be turned into money (whereas anything that cannot be turned into money is a benefit in kind strictly so called); the [assets] could be, and were, turned into money and so they were perquisites or profits; and perquisites or profits can be paid (although benefits in kind cannot be paid). It follows that the [assets] were emoluments and they were paid. For that reason also section 203 applies.'
There is a reason why the two quotes above are so similar in approach. Dr Nuala Brice was one of two Special Commissioners in the first case, Paul Dunstall Organisation Ltd (SpC 179) reported by David Whiscombe in Taxation, 4 February 1999 at pages 429 to 430, and she sat alone in the second case, Black, Brown, Green and White (SpC 260) reported in Taxation, 21/28 December 2000 at page 323.
You might ask why I am writing about the latter case when all that has happened is that, on the basis of materially similar facts, the same conclusion has been reached. The reason is that the Revenue, having already spent lots of taxpayers' money to take the first case to the Special Commissioners on the basis that pay-as-you-earn was clearly due, decided in the second case to spend more taxpayers' money to argue that the individuals should be taxed through Schedule E assessments on the basis that they received benefits in kind. This seems to me to be a cynical exploitation by the Revenue of its tax gathering powers. Surely it is not acceptable for a Government body to hold contradictory views simultaneously about the same issue. The Revenue's argument was couched in technical terms to try to distinguish (without mentioning) Dunstall. Readers may think that this approach is fair enough and that I am missing the point. Indeed, the latter could be a valid proposition, but until so convinced, I am very uneasy about the Revenue's approach.
The agreed points of law
Whatever compelled the Revenue to act as it did, the agreed interpretation of the law is interesting. The agreed points of law were:
the word 'payment' in section 203, viz. 'payment of, or on account of, any income', was not limited to payments of cash but could include transfers of valuable consideration such as cheque payments and credit transfers;
the word 'emoluments' in Regulation 2 of the Income Tax (Employments) Regulations 1993 meant the full amount of any income to be taken into account for Schedule E purposes;
the word 'emoluments' encompassed the cash equivalent of benefits in kind, but not all benefits in kind, e.g. the provision of a car, involve a payment. For section 203 and Regulation 2, payment was the transfer of money or money's worth and it was critical to determine when the entitlement to the payment arose. If, prior to the transfer of assets, the recipient had no legal entitlement to the money, the transfer would not amount to a payment. There would need to be a pre-existing legal entitlement to money or money's worth before there could be a payment;
there would only be a requirement to deduct income tax from a payment of emoluments where the employee had a legal entitlement to actual payment of a monetary amount. It was not enough that the employee preferred or expected cash or even that the award was discussed in cash terms before being made by way of a benefit.
I have no difficulty with the first two points or the first sentence of the third point. I am not clear, however, why the taxpayers accepted that the transfer of money's worth – insofar as this gives rise to a pay-as-you-earn liability – automatically covers the transfer of assets unless there is no pre-existing legal right to a payment of a monetary amount. Perhaps something in Dunstall led the taxpayers to conclude that this point, having been fully considered, was now settled. The Revenue's Schedule E Manual at paragraph 12003 seemed to confirm this point, stating that the Revenue's case (leaving aside the Ramsay point) was that '… a “payment” for pay-as-you-earn includes a transfer of an asset where that transfer satisfies a pre-existing entitlement to money …'. I therefore read the full transcript again and could not find this argument. In fact, the Special Commissioners said that the issue for determination was whether the word 'payment' meant only 'payment in money'. So why was the point agreed in the second case, if indeed it was decided in Dunstall?
The Revenue's argument
Returning to the second case, counsel for the Revenue argued that, because the taxpayers could not sue for an ascertained amount of money, they received benefits in kind and were liable to tax under Schedule E on the cash equivalent of those benefits in kind. He said that this was based on the fact that the director who contracted with the taxpayers about their bonuses had no actual authority to do so and that the board had not indicated – 'held out in legal terms – that he had ostensible authority to bind the board.
Counsel for the Revenue relied on the non-tax case of Freeman & Lockyer v Buckhurst Park Properties (Mangal) Ltd [1964] 1 All ER 630 in support of this view. Counsel for the Revenue concluded that the bonuses were discretionary and that the entitlement arose only on their receipt. On all occasions the taxpayers had agreed to accept their bonus in the form of assets and thus they received benefits in kind.
Based on this argument, the Special Commissioner said that she had two questions to answer. Firstly, whether the director had authority to bind the company and secondly whether the taxpayers had a pre-existing entitlement to money or money's worth quantified in an amount of money. She answered both questions in the affirmative and concluded that, for this reason, pay-as-you-earn was due. She then explained her alternative reason why pay-as-you-earn was due, as quoted above.
Other unanswered questions
We are not told why the Revenue decided to pursue the employees in this case. Generally, the Revenue seeks pay-as-you-earn from the employer – even where there seems to be a case for shifting the onus to the employee under the 1993 Regulations. It may be because the employing company had no money and that the pursuit of pay-as-you-earn would be pointless. However, this does not seem to explain why the Revenue issued assessments on the company for pay-as-you-earn (under what is now Regulation 49 of the 1993 Regulations – see 'Trouble with the Taxman? – IV' by John Nisbet and myself in Taxation, 27 May 1999 at pages 222 to 224), but later withdrew these. Why did the Revenue do this, and when? The company appeared to be profitable in 1990, and while it is true that companies can collapse overnight, was that the case here?
If you or a client have been involved in similar arrangements that you previously thought were safe – and which are squarely outside the scope of the anti-avoidance legislation – the biggest unanswered question for you must be which way will the Revenue jump if it looks at your case?
David Reilly is a senior manager in the PricewaterhouseCoopers' employment tax solutions team. He can be contacted on 020 7213 8716 and david.j.reilly@uk.pwcglobal.com.
