UK: ‘Slave’ company revamp will hit non-executive directors and partnerships, as well as consultants, warns KPMG

Last Updated: 4 June 1999

An outline of the proposals

Following the March 1999 Budget, the Inland Revenue has distributed to certain representative bodies a discussion document on new rules for the taxation of service companies and similar arrangements.

The new rules apply where:

  • an individual (‘the worker’) holds an office with, or performs services for, another person (‘the client’) and the client has a right of supervision, direction or control as to the tasks undertaken or the manner in which they are performed; and
  • the worker is, or the services are, provided under a contract between the client and an intermediary (eg, a service company or agency, or a partnership of which the worker is a member).

Exceptions apply where:

  • the worker’s services are supplied incidentally to the supply of materials and/or equipment (eg, where a lorry and driver are supplied together); or
  • the client is an individual not in business (eg, a householder).

Where the new rules apply, there are two options.

  • The intermediary can apply to the Inland Revenue for certification, undertaking to pay workers only in a form chargeable under Schedule E and subject to NIC. The client can then make gross payments to the intermediary.
  • Where a particular engagement is caught by the new rules but not covered by certification or the exemptions, the client will have to account for PAYE/NIC on payments to the intermediary or to the worker. In calculating its own profits the intermediary can exclude (in the case of a partnership) or deduct (in the case of a company or other business) the PAYE/NIC deducted by the client.

If the engagement is not covered by the certification procedure the worker is subject to Schedule E tax and Class 1 NIC on remuneration from the deemed employment, and can only deduct expenses allowable under Schedule E rules. He will be able to receive remuneration free of tax and NIC from the intermediary (within a fixed time limit) up to the amount of payments received by the intermediary net of PAYE and NIC.

KPMG comment

The proposals will particularly affect sectors such as IT, where an estimated 50,000 individuals use personal service company arrangements, and engineering contractors. They will also snare non-executive directors and partnerships.

In their representations to the Revenue, KPMG Tax Advisers have warned that the ‘control’ test proposed as the basis for deciding whether a contractor is effectively employed by his or her ‘client’ appears to encompass a much wider range of situations than the original Budget announcement implied.

Inez Anderson, Employee Issues Tax Partner at KPMG, said: ‘The proposals represent a major change in the boundary between employment and self-employment. The old system relied on many factors such as whether the individual supplied his own equipment, whether he was allowed to substitute others to do the work, and the degree of financial risk he undertook. But this new catch-all control criterion is very wide indeed. Much of the comment so far has concerned the IT and engineering sectors but the proposals also bring into question the status of non-executive directors who supply consultancy services through a company. From now on they will also be treated as employees of the ‘client’, who will have to withhold PAYE and NIC on all amounts paid to them.’

KPMG points out that partnerships will also be affected. Any partner who supplies personal services to a client under a contract will apparently have a choice:

  • either the partnership will have to qualify for an exemption certificate by undertaking to pay its partners for such services only through the PAYE system; or
  • the client will have to deduct PAYE and NICs from the payments made to the partner.

Either option turns partnership taxation on its head.

Inez Anderson continued: ‘The proposals also give rise to problems internationally. How will this work with companies or partnerships based outside the UK? If - as is likely - the company does not have an exemption certificate, the UK client will have to deduct PAYE and NICs from payments made. It is also unclear how these new rules will interact with EU social security regulations. It may even be necessary to revise some of the UK’s tax treaties.’

KPMG believes that for such a major change to employment law, with implications stretching across the whole spectrum of the UK economy, the consultative process has not been comprehensive enough.

Inez Anderson concluded: ‘Consultation has been limited to just a few representative bodies, while parts of the new rules are being rushed through the Commons attached to the Welfare Reform and Pensions Bill. A proper debate is needed about the proposals in their entirety, not just a limited discussion about the practical application of the rules. It is too important for that.’

For further information speak to your usual KPMG tax contact.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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