Changes to Tax Benefits and Expenses Rules – Reminder

From April 2016 the rules on reporting of expenses and benefits are due to be reformed.

Previously, expenses reimbursed to employees that were wholly, exclusively and necessarily incurred by the employee in the performance of their duties were treated as an allowable expense for the employee; however the payment of the expense was treated as a benefit. Historically, such matters have required reporting on Form P11D, or to be covered in advance via a written dispensation from reporting, agreed in writing with HMRC. As there was no overall tax liability in such instances, HMRC allowed companies to agree dispensations for certain expenses which did not need to be reported in this manner.

The whole of this system is being abolished, and a new one imposed. From April 2016, it is proposed that existing dispensations will no longer be in force. Instead, where an employee is entitled to a fully matching tax deduction, employers will no longer have to apply for a dispensation, or report those expenses on form P11D. In theory this may cut back on reporting for the future, but HMRC expect there to be an underlying checking mechanism. If this is not in place and also formally verifiable then tax penalties may be imposed.

There is also a change to the way bespoke, pre-negotiated rates for expenses work. A new exemption will provide an option for employers to agree a scale rate with HMRC where they do not want to use the benchmark rates. These bespoke rates can be used for up to five years.

In order to apply for a bespoke rate, employers will need to provide HMRC with evidence, based on a sampling exercise, to demonstrate that the proposed rates are a reasonable estimate of the expenses actually incurred by the organisation’s employees.

It would certainly be prudent for employers to review any existing dispensations which are in place prior to 6 April 2016 and to consider any changes that may be required to be made to processes to ensure that expense payments are dealt with correctly from April 2016 onwards. We have prepared a questionnaire for employers to use to ascertain what steps might be needed and would be delighted to speak to you if you would like our assistance.

£600k Tax Free Payment – But There’s a Catch

A City trader recently won a case at the First-Tier Tribunal confirming that a payment of £600,000 from his former employers could be treated as tax free.  The catch comes in the fact that the payment was made as a settlement as compensation for racial discrimination; however the payment was in part calculated by reference to lost earnings.

In Mr A v HMRC, HMRC argued that because the payment had been calculated by reference to Mr A’s lost bonuses and earnings, it should be treated as taxable as earnings.  Mr A argued that the payment represented compensation in relation to a threatened race discrimination claim against his employers , and that therefore no tax should be due.

Mr A was eligible to benefit from the bank’s “discretionary bonus scheme”, and during his first 6 months made a profit of €3m for the bank, receiving a bonus of €50,000. During the next year he made a profit of €9.1m for a bonus of €125,000, which was later increased to €725,000 after he challenged it.

Mr A felt that the bonuses were disproportionately small compared to his colleagues, and that he had also been overlooked for promotions.  He made a claim under the Race Relations Act 1976 (now replaced by the Equality Act 2010).  Eventually the parties entered into a compromise agreement for full and final settlement. The amounts paid included a statutory redundancy payment of £1,650, an ex-gratia redundancy payment of £48,898 and the further compensation sum of £600,000.

Ultimately, the courts found in favour of Mr A, stating that “while the discrimination may have manifested itself through the way in which the employee was remunerated, the damages arise not because the employee was under-remunerated but because the underpayment was discriminatory.”  They found that the payments were made due to the fact that Mr A had been discriminated against and that the fact that they were calculated by reference to lost bonuses and earnings did not make the sums earnings.

It is interesting that a sum of £178,922 which was part of the £600,000 figure was acknowledged to be in respect of a bonus that was underpaid in error, however the Tribunal still felt that this fell within the overall discrimination claim as it would not have been paid without the claim.

The case could have interesting implications for compensation payments in the future and highlights the importance of reviewing the tax implications of transactions at the time based on the facts.  It remains to be seen whether HMRC will look to appeal this case at the Upper Tribunal.

Private Expenditure and The Importance of Keeping Records

A recent tribunal case (D White v HMRC) again highlighted the importance of keeping accurate records for tax purposes, this time in a case involving private expenditure on a company credit card.

The Director used the card for both business and private expenditure, but there were no accurate records to enable them to determine the amount of private expenditure.  HMRC therefore argued that the Director’s loan account was incorrect and raised assessments under the rules on cash equivalent of benefits treated as earnings.

The taxpayer appealed against the assessments but had no evidence to show that the HMRC figures were incorrect.  There was nothing to show that private expenditure had been reimbursed, or that the director’s loan account had been suitable adjusted.

The tribunal had no choice but to dismiss the appeal.  This shows the importance of keeping accurate records as, once HMRC have raised an assessment, it is generally up to the taxpayer to prove that they are not correct.  This can be difficult if the records are not sufficient to do so.

HMRC Consultation on Unapproved Employee Share Schemes

A consultation is currently in progress relating to proposed changes to the rules on unapproved employee share schemes and employment-related securities.

The changes proposed could be quite radical and therefore advisors who deal with such schemes would be wise to consider responding to the consultation. Eaves and Co are currently preparing our own response to the proposals and we would welcome any further feedback that you may have, to be incorporated into our response.

The Proposals

The summary of the proposed changes is as follows:

  • Individuals would potentially be able to choose whether the tax charge on employee shares arises at the time they are acquired or, at the time at which they could be sold for their “unrestricted market value” (when they become ‘marketable’). Income tax and NICs would then be payable at this time.
  • The rules on marketable shares could potentially mean that shares in private companies (without an EBT) would not be treated as marketable until arrangements were put in place for a sale of the shares. This would potentially enable tax charges to be significantly deferred compared to the current rules, although an election could still be made to pay tax upfront.
  • Changes to the rules on readily convertible assets (RCAs) which determine when NICs are payable on employee shares. The proposals are that all such shares would be RCAs (with NICs payable at the point at which the shares became ‘marketable’ unless an election was made to pay tax upfront on similar terms to a current s.419 election.
  • Dividends and other income received from employee shares before they became ‘marketable’ would be taxed as employment income

Whilst the proposals seek to provide a simplification of the current rules, it remains to be seen whether this will be achievable bearing in mind the necessary anti-abuse clauses that will no doubt be required to prevent unforeseen uses for such rules. Our thoughts are that these proposals require detailed critical thought.

The consultation document proposes a ‘simplification’ in order to encourage the use of employee share ownership. Whilst there may be some cases where deferring an upfront tax charge might make such schemes more attractive, the fact that all of the uplift would be taxable as employment income might raise questions about what the purpose of entering into such schemes would be.

Similarly, one wonders what the policy thinking behind charging dividend income as employment income is, and how such a proposal would encourage the use of share schemes? If it is felt that dividends are taxed at the wrong rate, why are complicated rules like these proposed, rather than simply raising the tax rate on dividends?

As advisors, it will be important to ensure clients are fully aware of the pros and cons of making elections under these rules and the impact of paying tax at employment income rates on any profits and/or dividends arising on the shares if no elections were made.

Do you think these changes would improve the position for unapproved share schemes and encourage more use of such schemes, or would the new position with potentially increased amounts taxed as employment income have the opposite effect? Please let us know in the comments section below.

Unfortunately Exposed – No Figg Leaf of an Excuse! (Peter Figg v HMRC)

Tax unattended to is a recipe for disaster.  Peter Figg vs Commissioners for HMRC presents a sorry tale of taxpayer woe!

  1. Mr Figg was promised a new job with a tax free removal package offered by his employer as an incentive.
  2. He started his new job and immediately found it did not meet his expectations.  He complained, and after some time agreement was reached that the role was not really what had been promised, so it was agreed he should leave.
  3. He received a tax free lump sum (which was accepted as tax free compensation for loss of office by HMRC) but his employer put the cost of temporary living accommodation (paid in the interim whilst he was working for them) on his P11D.  This was against the original agreement in the job offer.
  4. Mr Figg realised he had to file an online tax return in January (before the 31st deadline) but did not receive the relevant access code from HMRC until after the filing deadline.  Like many people who have sought to represent themselves before courts in the past, Mr Figg found himself on the losing side.
  5. Whilst the courts found that the delay in filing may have been a ‘reasonable excuse’ it held it was not in this particular case, because the taxpayer did not act promptly when HMRC did send him the delayed access code.  Filing actually took place the following January .  No explanation was offered for the continuing delay.  Once the original excuse (no valid access code) ceased to be operative, the taxpayer had an obligation to file without further delay.
  6. The courts also found that, whilst the temporary accommodation expenses could have been tax free if associated with a permanent move of home to get a new job, Mr Figg did not actually move permanently.  He resigned and entered into a compromise agreement without making a permanent move.  Hence the statutory rules for tax free moving expenses were not met.

Like many tax stories ‘the Devil is in the Detail’.  The best course of action is not to leave tax matters unattended to.

Special Circumstances – Penalty Reduced

A recent tribunal case (F Berrier v HMRC – TC03584) involved the use of a relatively little known aspect of the legislation, namely that HMRC have the power to reduce penalties, “if they think it right because of special circumstances” (FA 2007, Sch 24, para 11).  The more cynical might suggest that HMRC might never think it right to reduce a penalty, but a recent case showed that the courts may have the power to apply such reductions as well.

Background and Facts

The taxpayer began working for a securities broker in 2009 and received a sum of £25,000 in addition to his starting salary.  He claimed to believe this was a “golden hello”, but his employers were treating it as a “forgivable loan”, as noted in his employment statement.

The loan was subsequently written off in February 2011, and it included on his P11D as a taxable benefit for the 2010/11 tax year.  He was also provided with a note telling him to include the amount in his tax return for the year.

One completing his return, however, he did not include the loan. HMRC amended the return to include the £25,000 and levied a penalty for carelessness.

The taxpayer appealed the penalty, as he had referred to the sum in his 2009/10 return.

Tribunal Decision

The First-tier Tribunal agreed that the sum was a loan, and therefore the taxpayer was liable to income tax when the loan was written off under ITEPA 2003, s.62 and on the beneficial interest rate (i.e. 0%) under s.175. The charges were applicable to the 2010/11 tax year.

The tribunal found that the taxpayer should have shown this income on his 2010/11 return and agreed that the omission was careless.  He did not have reasonable excuse, as his claim that his wife had tidied away the P11D only made matters worse.  He should have gathered together the necessary documents before preparing his return.

However, as the taxpayer had referred to the loan on his 2009/10 return and therefore drawn HMRC’s attention to it, the tribunal felt that there were special circumstances under FA 2007, Sch 24 para 11 and that HMRC’s decision not to apply a reduction under this provision was incorrect.  The tribunal therefore applied a 25% reduction to the penalties.

The facts of this case were perhaps quite unusual, however it demonstrates the importance of pursuing all aspects of the legislation that could provide taxpayers with a reduction on penalties; seeking reductions due to special circumstances could well be another option where the a “reasonable excuse” cannot be applied to entirely wipe out a penalty.

Two Loans Not One Loan – Mrs E Amri v HMRC – Benefit in Kind Rules

A recent tribunal case was heard concerning the benefit in kind rules on beneficial loans to employees (Mrs E Amri v HMRC).  In what may be a more unusual situation, the case concerned an individual who was employed by a bank and was provided with loans with two different interest rates.

Background and Facts

The taxpayer was provided with two loans from the bank that she worked for, one for £35,000 at 5.5%, which was the Bank of England base rate at the time, and another for £105,000 at 6.24%.

The HMRC official rate of interest for beneficial loans at the time was 6.25%.

The smaller loan was a staff loan whilst the larger loan was provided at the bank’s normal commercial rate.

HMRC enquired into Mrs Amri’s return, and argued that the whole sum received should be treated as one loan and taxed as a benefit in kind.  By using the averaging method for calculating the loan, Mrs Armi was deemed by HMRC to have incurred a much higher benefit that she would have done on the £35,000 loan.

Arguments and Decision

HMRC argued that all sums advanced by reason of employment were covered by ITEPA 2003, s.173(2)(a).  As HMRC argued the amount advances were a single loan, this would mean that the whole loan was subject to a benefit in kind tax charge based on the average rate.

The taxpayer appealed on the basis that the two loans were distinct and as a result the loan of £105,000 was exempt by virtue of ITEPA 2003, s.176 as comparable loans could be taken by members of the public.

The tribunal agreed with the taxpayer and refuted HMRC’s argument that there was only one loan, allowing her appeal.  It was noted that HMRC had not provided any real evidence that there was only one loan, and Mrs Amri had stated that different terms applied to each.

Comment

The decision appears to be fair and common-sense.  What is more surprising is that the taxpayer was forced to take the case to tribunal to get the desired outcome and highlights the continuing trend of HMRC adopting aggressive stances where it is hard to identify the “mischief” they are targeting.

Employer-Financed Retirement Benefit Schemes (EFRBS) Settlement Opportunity

HMRC Offer EFRBS Settlement Opportunity

HMRC are giving employers the chance to settle open enquiries into the use of employer-financed retirement benefit schemes (EFRBS).

The settlement opportunity applies to contributions made by employers on or after 6 April 2006 and before 6 April 2011.

HMRC are of the belief that such arrangements do not work and therefore the settlements will avoid the need to take part in potentially costly litigation, thus benefiting both sides.

Firms will have until 31 December 2013 to enter into an agreement with HMRC.

Two Options Available

They will then be required to choose one of the following two options offered by HMRC:

i) No Corporation Tax deduction can be claimed on contributions to an EFRBS until the relevant benefits are paid out by the scheme, HMRC also expect PAYE and NICs will be due when they are paid out or

ii) A Corporation Tax deduction can be claimed when contributions are made to the EFRBS.  However, when those contributions are made they will be subject to PAYE and National Insurance contributions.

If an employer chooses to settle with HMRC by choosing one of these options they will have until 30 June 2014 to finalise the arrangement.

Interest & Penalties

Under option 1 interest will run from 9 months and 1 day from the end of the accounting period for which the additional amounts are due.

Under option 2 interest will run from 19 April following the end of the tax year in which allocations were made to the date the PAYE Income Tax and NIC is paid to HMRC.

HMRC have said that they will only seek penalties regarding any tax due in exceptional circumstances. However this is caveated by saying that every case will turn on its own facts.

HMRC Criticised in Share Scheme Tribunal Case – Benedict Manning V HMRC

HMRC were criticised for their handling of a recent employee share scheme case by the tribunal judge, who noted that they had conducted their investigation “without apparently troubling to look at the scheme rules”.  The recent case is not the first time tribunal judges have been critical of HMRC’s conduct.

 

The case in question involved an employee share option scheme.  The taxpayer exercised his share options in October 2007, paying £7,636 for shares worth £111,579.  The scheme rules stated that the taxpayer should pay over the PAYE due on the exercise within 90 days, but he was not told the amount to pay by his employers until March 2008.

 

HMRC charged tax on under ITEPA 2003, s.222 on the basis that this was not within the 90 day limit imposed by the scheme rules.  The taxpayer appealed as he could not have paid the PAYE before being told the amount to pay.

 

The tribunal allowed the appeal, agreeing with the taxpayer that the date of exercise could not be the relevant date as he was not informed of the amount to pay until March 2008.

 

The tribunal judge stated that s.222 was introduced to target grossly abusive schemes and that there was nothing abusive about this scheme.  The case again shows that it often pays to challenge HMRC, especially when they are being over-zealous in their application of the law.

Entrepreneurs’ relief on Enterprise Management Incentives (EMI) share options

One of the problems with Entrepreneurs’ relief as opposed to the old rules on Business Asset Taper Relief, was that employee shareholders could struggle to acheive the relief due to the 5% holding requirement.  This position has now been relaxed where shares are acquired through an Enterprise Management Incentives scheme, meaning it should now be easier to obtain Entrepreneurs’ relief on Enterprise Management Incentives (EMI) share options.

Draft proposals under the Finance Bill 2013 will remove the requirement for a person to hold at least 5% of the ordinary share capital of a company in order to qualify for entrepreneurs’ relief on shares acquired through a qualifying EMI share option scheme.

The legislation will also be changed to allow the period in which the options are held to count towards the 12 month holding period required to qualify for entrepreneurs’ relief.

These announcements will therefore increase the already highly efficient tax treatment of EMI schemes, and potentially enhance the incentivisation of employees under such schemes.  Even where the share option scheme itself is not desired, EMI schemes could potentially be used to enable employees to acquire shares that will qualify for Entrepreneurs’ relief, as there is no minimum exercise period for EMI options.