On 6th April 2014 Onshore Employment Intermediaries legislation (false employment) was introduced as part of the 2014 budget. The aim of the legislation was to make sure that recruitment agencies who hire self-employed traders who are actually employees (working on behalf of their long-term clients) take responsibility for deducting PAYE income tax and NIC’s from their gross pay. These agencies should now be recognising false-employment via the established tests such as the lack of supervision, control and direction of that worker by a client. If the agency does in fact deduce direction, supervision or control as being present then the legislation will apply to them and they must then make deductions according to PAYE income tax and NIC. With regards to contractors themselves, those contractors who work via an umbrella company already pay their NIC’s and income tax as employees of the umbrella company so the new regulations will not affect them at all. Though limited company contractors could be caught up in the legislation there are however some technicalities which make it unlikely. Consequently, the end result of the new legislation is that it is recruitment agencies who are under the spotlight more than anyone else.
So Why Was This Legislation Necessary?
HMRC had been thinking about these measures for a couple of years – they were first announced officially in the Autumn Statement of the Chancellor in 2013 and were then released for consultation on 10th December 2013. The reason they had been thinking about the measures for a while was because they had become concerned about the wholesale tax avoidance being carried out via employment intermediaries who were providing clients with the services of self-employed sole trader workers. These workers should have been employed and therefore been paying PAYE income tax and NIC’s through their agency or through their end-user clients, but were avoiding doing so. The chief target of the legislation was originally the construction sector and was a complimentary measure to the CIS (Construction Industry Scheme) that did the same thing. However, despite HMRC claiming that the measures were not intended to be aimed at the mainstream contracting sector (and the freelancing sector) their own guidance on control, supervision and direction cited the example of an IT contractor caught up in these various scenarios. Clearly all contractors and agencies across all sectors need to understand these new rules.
How Does This Onshore Employment Intermediaries (False Employment) Legislation Work?
Previously, the rules (under section 44 of the Income Tax (Earnings and Pensions) Act 2003 (ITEPA)) declared that workers must pay income tax and NIC’s under PAYE if (a) the individual was under obligation to provide personal services, (b) the contract was via a third party agency contract (c) the worker was subject to supervision, direction and control as to how they provided their services and (d) the payment wouldn’t otherwise be employment income. It was necessary for all of these conditions to be applicable to the situation of the worker otherwise they could still be paid gross through their agency. Under the new legislation there are three amended conditions that must apply if the worker is to get paid through PAYE. Firstly, the requirement that ‘the individual personally provides, or is personally involved in the provision of services’, so that substitution will not be a reason for the rules to apply. Secondly, they have removed the reference to ‘agency contract’ and said that ‘any third person’ can now be seen to be defined as the agency. Thirdly, that ‘if remuneration receivable under or in consequence of the agency contract is not otherwise already treated as employment income’ then that worker must then have NIC’s and PAYE income tax deducted by the ‘third party’. Also, there has been an important new condition added by HMRC and that is that if the agency cannot prove there has been no supervision, direction and control in the manner of the services provided then PAYE will apply.
‘The Buck Stops Here’ for Agencies When It Comes to Supervision, Direction and Control
Agencies should repeat the phrase ‘the buck stops here’ over and over again. It is now completely their responsibility to assess their temporary workers and decide whether there is any supervision, direction and control of the worker by the client. The presumption of contracting innocence has now been flipped on its head and HMRC are saying they will be assuming that supervision, direction and control are present and it is up to the agency to prove that they are not. Using these rules the agency must now automatically make deductions of NIC and income tax from the gross pay of their workers as if they are employees; additionally the rules apply if the worker ‘personally provides, or is personally involved in the provision of services.’ Essentially that means that even when there is a substitution clause and that worker opts to use another contractor to take on a part of the work, the simple fact that they chose and paid that substitute worker qualified them as ‘personally involved’ in the provision of those services.
It should be no surprise that the recruitment industry is not best happy with these requirements and has been vociferous in pointing out the difficulties involved in proving a negative – the absence of direction, supervision and control – and the burden it places on them in terms of compliance.
Tooling Up – HMRC Also Opts for TAAR
As if to emphasise their seriousness in taking on this kind of avoidance HMRC also introduced a TAAR within the Income Tax (Earnings and Pensions) Act 2003 in order to look at the motive for people setting up their tax arrangements and ultimately to deter tax avoidance. The TAAR (Targeted Anti-Avoidance Rule) is to apply to workers who personally provide services to another person wherein a third person enters the arrangements ‘under which the main purpose, or one of the main purposes of the third person’s involvement, is to ensure the worker’s arrangement does not fall within the provisions of the agency legislation.’
The TAAR will be applied and the workers pay will be treated as being employment earnings from an employment between the worker and the third person, unless these two criteria apply
When the TAAR is applied it will provide that unless the following two criteria apply:
(i) the worker is not subject to (or to a right of) supervision, direction or control as to the manner in which their services are provided, or
(ii) remuneration receivable by the worker in consequence of providing their services constitutes employment income apart from the agency legislation being applied
If those criteria do not apply then the third person will be responsible for operating PAYE and paying Class 1 NIC’s on all pay received by the worker (from any person) as a result of providing their services through that arrangement.
Umbrella Company Contractors (And Most Limited Company Contractors) Need Not Worry
Contractors who work through umbrella companies can relax completely – they are unaffected by any of this legislation. That’s because umbrella company contractors will already be getting their fees through an employment income and already paying PAYE income tax and national insurance contributions. Consequently they would not meet any of the conditions and the new rules would not apply. A similar situation would apply to limited company contractors who work within IR35.
As for other limited company contractors, it was thought at first that they would be within the scope of this new set of regulations. Despite HMRC claiming from the start that they were not intending to go after skilled knowledge workers they did cite an IT contractor when offering examples of supervision, direction and control and the contracting sector was unconvinced. However, HMRC have since pointed to an important technicality that lets most limited company contractors off the hook. Any limited company contractor who pays themself via high dividends and low salary would in all likelihood not be affected because the rules note that “if remuneration receivable under or in consequence of the agency contract is not otherwise already treated as employment income” then their agency will have to take off the NIC’s and income tax. However, those limited company contractors paying themselves via dividend would be ok because a dividend doesn’t count as remuneration in the legislation at the moment. In such a case there is no link between the agency paying the contractor’s limited company and what that contractor’s limited company in turn pays the worker.