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All new staff at a firm were given the opportunity to either go on the pay-as-you-earn system or be 'self employed'. The ones who decide to be self employed render an invoice on a regular basis and are paid gross. One of our clients is such a self-employed person and was investigated under the self-assessment system. The Inland Revenue denied self-employed status and demanded tax and National Insurance contributions from our client.
All new staff at a firm were given the opportunity to either go on the pay-as-you-earn system or be 'self employed'. The ones who decide to be self employed render an invoice on a regular basis and are paid gross. One of our clients is such a self-employed person and was investigated under the self-assessment system. The Inland Revenue denied self-employed status and demanded tax and National Insurance contributions from our client.
Although we cannot dispute the employment status of our client, it has been our understanding that if an employer incorrectly administers the pay-as-you-earn scheme, then the Revenue should seek any tax and National Insurance contributions from the employer rather than the employee.
We would be grateful for comments.
(Query T15,848) – Kenton.
I would recommend 'Kenton' to read Will Heard's article 'Daylight Robbery' in Taxation, 22 February 2001 at pages 482 to 485. This article quite clearly explains the problems in these situations.
Whilst, on the one hand, the pay-as-you-earn regulations place the onus on the employer to ensure that PAYE is correctly applied and provide for assessment of any uncollected PAYE as a charge on the employer, there is no attempt to reconcile this to the employee's position when he has paid tax under Schedule D through his self assessment. Tax legislation normally takes great care to ensure that double taxation of the same income is avoided in most cases. However, in this situation, tax legislation is apparently silent.
The above article was followed by a letter from Nigel Popplewell in Taxation, Feedback, 22 March 2001 at page 601 concerning the Kleinwort Benson v Lincoln City Council case, which provides a precedent for employers to recover tax from employees where self-employed status has been overturned. The letter also suggests that the employee would be able to reclaim Schedule D tax on the grounds that pay-as-you-earn had been recovered by the employer.
So where does this leave 'Kenton's' client? It would appear that the client has no choice but to amend his self assessment and settle the Class 1 primary contributions. In fact, he will be in no worse position than he would have been had pay-as-you-earn been applied from the beginning, enquiry costs aside.
Presumably the employer will be required to apply PAYE in future, and the next logical step for the Inspector is to notify the district dealing with the employer's PAYE file, which will then no doubt result in an enquiry into the status of the entire workforce. If, as is likely, there are additional cases of mis-classification, the employer will be assessed for the pay-as-you-earn which has not been applied, including Class 1 secondary contributions.
In the scenario envisaged by Nigel Popplewell, the employer would then sue the employee for the pay-as-you-earn it has suffered and the employee would claim a repayment of the tax self assessed. A lot will depend on the relationship between the employer and employee. Is the employer likely to wish to spend time and money going through the courts to recover pay-as-you-earn from an employee with whom it wishes to remain on good terms? What message would this send out to other and potential employees?
If the PAYE is recovered from the employee, there are also the usual time limits to be met in making any claim for repayment. Given the length of time it takes to conclude legal cases, the employee could well find himself out of time for claiming repayment.
The Revenue's argument for not following through where Regulation 49 assessments are issued is that it cannot discuss a taxpayer's affairs with a third party. However, if there is a good relationship between the employer and employee in this case, they could make a joint appeal to the Revenue if there is any attempt to assess both of them.
The moral of the story is that whenever self-employed status is contrived, or unclear, contracts must contain the proper badges of trade and, even more importantly, both the employer and employee must be seen to be operating within the terms of that agreement. – Little Bird.
The responsibility for the deduction of pay-as-you-earn and National Insurance from employees' pay rests with the employer, as does any liability in the case of a failure such as this. The proper course of action in disputed employment status cases is for the Inland Revenue to issue determinations under Regulation 49 of the Income Tax (Employments) Regulations 1993 for the pay-as-you-earn and a decision under section 8(1)(m), Social Security Contributions (Transfer of Functions, etc.) Act 1999 in respect of the National Insurance unpaid, both against the employer.
The exception to this is when the Collector of Taxes has been satisfied by the employer that he took reasonable care and made an error in good faith when failing to deduct pay-as-you-earn, in which case the Collector may direct under Regulation 42(2) that the tax is recovered from the employee. Similar provisions exist within the National Insurance legislation, although a higher test of the underpayment being due to 'an act or default of the earner, and not to any negligence' on the part of the employer is applied.
If both the worker and the engager dispute 'employee' status in a self-assessment case, Inland Revenue practice is to issue the above mentioned assessments and also to amend the self-assessment return. This is so that they can arrange for all the appeals to be heard simultaneously before a single body of Commissioners. This avoids the potential nightmare scenario of one body of Commissioners finding that the worker was not an employee, relieving the employer of any liability, and another hearing finding that the worker was an employee when considering the self-assessment appeal, relieving the employee of any liability.
'Kenton' should also make sure that all technical arguments have been exhausted before conceding any ground. In cases where both the engager and the worker contend self employment, the Inland Revenue has been notably unsuccessful in convincing the courts otherwise. The last victory notched up by the Inland Revenue in these circumstances was in 1986 although no doubt this could arouse false optimism in some cases! – Accountax.
Extract from reply by 'J.W.G.':
Did the individual know that the employer was wilfully failing to deduct tax? It is because of the need to prove that point that the Inland Revenue prefers to go against the employer where the question of liability will be a question of fact. Either something was or was not subject to pay-as-you-earn/National Insurance contributions. Going against the employee requires proof that someone knew that someone else was being wilful. At the very least, 'Kenton' should ask why the employer has not been approached and be ready to defend the wilful aspect of the Revenue approach, if it can be defended.
