Tackling Managed Service Companies

Page 1

Tackling

Managed Service Companies

December 2006

Page 2

Page 3

December 2006

Tackling

Managed Service Companies

Page 4

Published with the permission of HM Treasury on behalf of

the Controller of Her Majesty’s Stationery Office.

The text in this document (excluding the Royal Coat of Arms

and departmental logos) may be reproduced free of charge

in any format or medium providing that it is reproduced

accurately and not used in a misleading context. The material

must be acknowledged as Crown copyright and the title of

the document specified.

Any enquiries relating to the copyright in this document

should be sent to:

HMSO

Licensing Division

St Clements House

2-16 Colegate

Norwich

NR3 1BQ

Fax: 01603 723000

E-mail: hmsolicensing@cabinet-office.x.gsi.gov.uk

HM Treasury contacts

This document can be found on the Treasury website at:

hm-treasury.gov.uk

For general enquiries about HM Treasury and its work, contact:

Correspondence and Enquiry Unit

HM Treasury

1 Horse Guards Road

London

SW1A 2HQ

Tel: 020 7270 4558

Fax: 020 7270 4861

E-mail: public.enquiries@hm-treasury.gov.uk

ISBN-10: 1-84532-236-3

ISBN-13: 978-1-84532-236-6

Printed by The Stationery Office 12/06

Printed on at least 75% recycled paper.

When you have finished with it please recycle it again.

PU078

Page 5

Tackling Managed Service Companies

ONTENTS

Page

Chapter 1

Introduction

Chapter 2

Provision of labour services in the modern labour market

Chapter 3

Identifying Managed Service Companies

Chapter 4

Changes in the tax treatment of Managed Service Companies

Chapter 5

Impact of the measures

Chapter 6

The consultation process

Annex A

Glossary of technical terms

Annex B

Draft legislation

Annex C

Explanation of draft clauses on the tax charge

Annex D

Partial Regulatory Impact Assessment

Page 6

Page 7

Tackling Managed Service Companies

1.1

It is a long-standing principle that the tax treatment of income is determined by

its nature – that is, income which is properly employment income should be taxed as

such.

Consistent with this principle the Government seeks to ensure that even if an

individual is working through a company, but the underlying nature of the contract is

one of employment, tax and national insurance contributions (NICs) should be paid at

employed levels.

1.2

At Budget 2006 the Government announced that it would consult on action to

tackle Managed Service Companies (MSCs). MSCs are corporate structures through

which workers provide labour services. In contrast to Personal Service Companies,

workers in MSCs are almost invariably not in business on their own account and the

underlying nature of the contracts in which they are involved is one of employment. As

discussed in Chapter 2, there are existing rules (the Intermediaries legislation)

ensure that the correct tax and NICs treatment is applied, but these rules are in the vast

majority of cases not being followed by MSCs, which are therefore avoiding employed

levels of tax and NICs.

1.3

As a result the strong growth in MSC schemes constitutes a significant and

increasing risk to the Exchequer and those using MSC schemes are gaining an unfair

competitive advantage over compliant workers and businesses. In addition, some

workers are entering MSC schemes without understanding that they may be giving up

employment rights.

1.4

Enforcing the current rules is difficult with MSCs because of the large and

growing number of workers involved and the resource-intensive nature of the

legislative test. Furthermore, even when a debt has been established as the result of an

investigation by HM Revenue and Customs, MSCs can escape payment because they

have no assets and can generally be wound up or simply cease to trade, with workers

moving to a new MSC. The Government has therefore decided to remove MSCs from

the scope of the Intermediaries legislation and to apply a tax treatment to those working

in MSCs which means they will pay tax and NICs at the same level as other employees.

Personal Service Companies will not be within the scope of these measures, with the

Intermediaries legislation remaining in place as at present.

1.5

An effective definition of MSCs is key to this approach and the Government is

therefore consulting on the legislation to ensure that MSC schemes are accurately

targeted. Chapter 3 explains how the draft legislation works, with the complete draft

clauses set out in Annex B. The Government believes that the draft legislation strikes the

right balance between being well-targeted, clear about who is affected and who is not,

and robust against avoidance. Getting the definition of MSCs right in legislation is not

straightforward, however, and the Government would welcome comments on the

questions for consultation set out at paragraphs 3.14 to 3.16.

1.6

Chapter 4 discusses the tax treatment which will apply to MSCs falling within

the definition. Employed levels of tax and NICs will be applied to all income received by

workers in MSCs in relation to services provided through the MSC, with the MSC

obliged to operate Pay As You Earn (PAYE) and deduct tax and Class 1 NICs on that

Note that employment status in tax law is not necessarily the same as employment status for employment law purposes.

Chapter 8, Part 2, Income Tax (Earnings and Pensions) Act, 2003; Section 4A, Social Security Contributions and Benefits Act

1992; Social Security (Intermediaries) Regulations 2000, SI 2000/727.

NTRODUCTION

Page 8

NTRODUCTION

Tackling Managed Service Companies

income. This legislation will also apply the same rules for tax relief for travel expenses as

for other employed workers. The related draft legislation on the tax charge is set out in

Annex B with an explanatory commentary in Annex C and the Government also

welcomes comments on these draft clauses as set out at paragraph 4.11.

1.7

The Government will also address the problem of MSCs escaping payment of tax

and NICs that are due by allowing the recovery of these debts from appropriate third

parties. The Government aims to publish this draft legislation for discussion by the end

of January 2007 and welcomes comments on this issue in the intervening period as set

out at paragraph 4.20.

1.8

The expected impact of these measures on the main participants and on the

wider operation of the labour market is reviewed in Chapter 5.

1.9

The legislation will be introduced in Finance Bill 2007 with the aim of changes

starting to take effect from 6 April 2007. The consultation period will give those involved

in MSC schemes time to assess the implications and arrange their affairs accordingly.

1.10

Chapter 6 sets out details of the consultation process. Comments should be

submitted by 2 March 2007.

Page 9

Tackling Managed Service Companies

TODAY’S LABOUR MARKET

2.1

Britain’s labour market is characterised by adaptability and flexibility to

promote employability and competitiveness – combined with a strong Government

commitment to fairness.

There is a wide variety of patterns and types of work available.

The model of full-time work with one employer for a worker’s entire working life is

becoming less common, with increasing opportunities for part-time work, fixed term

contracts, multiple employments and agency work. This variety of patterns provides

individuals with more choice about how they want to work and gives businesses the

flexibility to respond swiftly to new opportunities as they arise.

Labour market relationships

2.2

Direct employment of the worker by the employer is illustrated on the left hand

side of Box 2.1. The worker is paid a salary on which the employer operates Pay As You

Earn (PAYE) so that the individual pays income tax and employee’s national insurance

contributions (NICs) on their earnings and the employer pays employer’s NICs. The

worker also benefits from full employment rights such as protection from unfair

dismissal, redundancy payments, and maternity or paternity leave.

Success at Work: Protecting vulnerable workers, supporting good employers, DTI, March 2006.

ROVISION OF LABOUR SERVICES IN THE

MODERN LABOUR MARKET

This chapter describes the way labour services are provided in the modern labour market. It

examines in more detail the structures referred to as Managed Service Companies (MSCs), the

schemes through which they are provided and the appropriate tax treatment for income received

by workers in these schemes. Because the workers are almost invariably not in business on their

own account, and the underlying nature of the contracts is that of employment, the existing rules

should ensure that employed levels of tax and national insurance contributions (NICS) are paid –

but in the vast majority of cases MSCs are not complying with this legislation. As a result, the

strong growth in MSC schemes constitutes a significant and increasing risk to the Exchequer;

those using MSC schemes are gaining an unfair competitive advantage over compliant workers and

businesses; and some workers are entering schemes without understanding that they may be

giving up employment rights. The Government will therefore remove MSCs from the current

rules and will apply employed levels of tax and NICs to income received by workers in respect of

services provided through MSCs.

Modern

flexible labour

market

Direct

employment

Page 10

ROVISION OF LABOUR SERVICES IN THE MODERN LABOUR MARKET

Tackling Managed Service Companies

2.3

Agency work is a common choice for many individuals. Agency workers are not

usually engaged by the agency under a contract of employment, but instead use a

contract which allows more flexibility for either party to terminate the contract. The

agency in turn supplies the agency worker to the end client who needs the labour

services. The agency remains a permanent part of the contractual chain between the

parties. Agency workers are entitled to core rights including health and safety, and

social security guarantees such as maternity pay.

2.4

In an agency arrangement, as shown on the right hand side of Box 2.1, the end

client pays the agency for the work carried out, the agency deducts their fee from the

payment and then operates PAYE on the wage paid to the worker. The worker pays

income tax and NICs on their earnings as before but here it is the agency which is liable

for the employer’s NICs.

2.5

In recent years there has been an increasing trend for workers to provide their

services to end clients or agencies through an intermediary company. The worker is

employed by the company and the company’s business is the provision of the worker’s

labour services. It is widely perceived that an individual working through an

intermediary company is not entitled to employment rights from an agency or end

client (though employment tribunals and the Courts can look through the corporate

structure to the underlying relationship).

2.6

When the company supplies the services of the worker to an end client the

nature of the relationship between worker and end client may be either one of

employment or self-employment. A worker’s status, that is whether they are employed

or self-employed, is not a matter of choice – it depends on the terms and conditions of

the engagement.

Box 2.1: Direct employment by an end client (left) and working through an agency

(right)

Direct employment

Agency worker

Agency

workers

Working

through an

intermediary

company

Salary

End Client

Worker

The end client pays employer’s NICs on

the amount of salary it pays the worker.

The worker pays income tax and

employee’s NICs on his salary.

The end client pays the agency. The agency

takes its fee and pays the worker a salary.

The agency pays employer’s NICs on the

amount of salary it pays the worker. The

worker pays income tax and NICs on his

Page 11

ROVISION OF LABOUR SERVICES IN THE MODERN LABOUR MARKET

Tackling Managed Service Companies

2.7

The provision of services through an intermediary company takes a number of

different forms, of which the main ones are described below.

Working through an intermediary company - Personal

Service Companies

2.8

If a worker chooses to go into business on his own account selling his labour

services to an end client he may choose to be self-employed (sole trader or partnership)

or set up a company. Where the business of a company consists of selling the services of

its worker it is known as a Personal Service Company (PSC). The worker is usually a

director of the PSC. While PSCs may supply the worker’s services direct to the end

client, in practice they more often find work through an agency. The end client pays the

agency, which deducts its fee, and then pays the PSC for the services of the worker. The

worker may draw a salary from the PSC but, as a shareholder of the company, is also

able to receive dividends. This is illustrated in Box 2.2.

Working through an intermediary company - Managed

Service Companies

2.9

Managed Service Companies (MSCs) are also intermediary companies through

which the services of a worker are provided to an end client. These are often known as

“composites” or “managed personal service companies” (these structures are described

in more detail below). In contrast to PSCs, the worker in an MSC is almost invariably not

in business on his own account and is not exercising control over the business. This

control lies with the provider of the MSC, referred to as the “scheme provider”.

2.10

The presence of a scheme provider is a key feature of MSCs. MSC scheme

providers are businesses (usually companies) which provide these generic company

structures and then administer the schemes.

2.11

MSC scheme providers range from those who specialise in the provision of MSC

schemes, often in a particular sector, to larger concerns who operate MSC schemes as

one part of a wider business. Some employment agencies have set up separate MSC

scheme providers. Overall HM Revenue and Customs (HMRC) estimates there are

Personal

Service

Companies

Box 2.2: Working through a Personal Service Company (via an agency)

Managed

Service

Companies

MSC scheme

provider

The end client pays the agency. The agency takes its

fee and pays the Personal Service Company. The

Personal Service Company divides the payment

between salary and profit. The salary is paid to the

worker and the PSC pays employer’s NICs on it; the

profit is subject to corporation tax and then paid out

as a dividend to the worker. If the worker is a basic

rate taxpayer he pays no income tax on the dividend,

but pays any income tax and employee’s NICs due on

the salary.

Contracts

Payments

Page 12

ROVISION OF LABOUR SERVICES IN THE MODERN LABOUR MARKET

Tackling Managed Service Companies

around 150 MSC scheme providers in total, with around ten of these accounting for the

vast majority of workers in MSCs.

2.12

In an MSC scheme the worker obtains work engagements, usually via an agency,

in the normal way. The worker supplying services usually takes no part in the on-going

management or financial control of his MSC and is typically not a director of the

company (but rather a worker-shareholder). Instead, the MSC scheme provider handles

payments between the agency and the MSC, deducting a fee for the work it carries out

and arranging for the payment of the worker. The worker is often unaware of the details

of the arrangement or its implications.

2.13

The marketing of MSCs schemes emphasises that the worker will not be

involved in running the company – they simply receive payments for their services (see

Box 2.3).

2.14

The specific arrangements of MSC schemes vary, but described below are two

common structures through which MSC schemes operate - Composite Companies and

Managed Personal Service Companies. For simplicity in this consultation document

both types of structures are referred to as Managed Service Company schemes.

2.15

In a Composite Company scheme several (typically ten to twenty) otherwise

Company”). The size of the Composite Company is restricted to ensure that profits do

not exceed the threshold for the small companies’ rate of corporation tax. Each worker

usually holds a different class of share in the company. This enables the Composite

Company to pay different rates of dividend to each worker, and in practice the dividend

received will be directly related to the company’s income from the end client for work

undertaken by that worker (see Box 2.4).

In some contexts the term 'managed services companies' is used to refer to companies that supply services to end clients and/or

also manage the services of other suppliers to that end client. In such arrangements the end client only has a direct contractual

relationship with the ‘managed services company’. This is an entirely different business model to MSC schemes.

Box 2.3: Advertising by a number of different MSC scheme providers emphasises that

the worker is not involved in running the company and will receive payments in a

“In a nutshell – we handle the boring administration that helps you keep more of your earnings

and keep your free time for the things you enjoy.”

“We will also carry out all the administration and payroll, so that you can enjoy all the benefits of

being an employee and a shareholder of your own limited company, without the hassle.”

“…Hassle free without any of the usual headaches and costs associated with owning your own

limited company.”

“You can choose to be paid monthly or weekly”

“You agree with your agency whether you will be paid weekly, two-weekly or four-weekly and tell

us which pay frequency you have agreed.”

“[We perform] all administration and management of each company.”

Source: MSC scheme provider websites

Composite

Company

schemes

Page 13

ROVISION OF LABOUR SERVICES IN THE MODERN LABOUR MARKET

Tackling Managed Service Companies

2.16

The MSC scheme provider, or a person associated with the MSC scheme

provider, may be a director of the Composite Company - the worker-shareholders are

typically not – and will normally exercise full financial and management control of the

MSC.

2.17

In a Managed Personal Service Company (MPSC) scheme, in contrast to a

Composite Company, there is only one worker per company structure (the Managed

Personal Service Company) (see Box 2.5). The MSC scheme provider performs similar

functions for MPSCs as for Composite Companies – it usually provides a director and

exercises financial and management control of the company, typically performing this

function for many MPSCs.

Box 2.4: Structure of a Composite Company scheme

The Composite Company illustrated contains three workers, labelled A to C (in practice, such

companies typically contain between ten and twenty workers). The end client pays the agency a fee for

the services of the three workers. The agency then takes its fee and pays the MSC scheme provider.

The MSC scheme provider takes its fee in turn, and then pays the Composite Company. Each worker

usually holds a separate class of share within the Composite Company so that they can receive only the

amount of remuneration due for their own work.

The Composite Company usually pays each worker a salary at the National Minimum Wage – labelled

A1, B1 and C1. The workers pay income tax and employee’s NICs on this salary and the Composite

Company pays employer’s NICs. The remaining remuneration for each worker is subject to

corporation tax as the profit of the Composite Company and then paid out in dividends. Each worker

usually has his own share class paying out dividends – labelled A2, B2 and C2. As long as they are basic

rate taxpayers, there is no income tax due on these dividend payments, and there is no NICs charge on

dividend income.

Managed

Personal

Service

Company

Page 14

ROVISION OF LABOUR SERVICES IN THE MODERN LABOUR MARKET

Tackling Managed Service Companies

2.18

In practical terms the day-to-day operation of MSCs is similar whether they are

Composite Companies or MPSCs. As illustrated in the diagrams above, there is

generally an agency between the MSC and the end client (in fact some agencies have

themselves set up associated MSC scheme providers). The mechanics of an engagement

with an end client tends to work as follows:

a worker will agree to undertake an assignment for an agency;

the worker will join the MSC - if he has not already done so - sometimes this

will be at the suggestion of the agency;

the MSC scheme provider will provide him with the company name, share

certificate and employment contract, and undertake to carry out the

company administration;

details of the agreed assignment are provided to the scheme provider who

puts in place contracts for the work to be provided through the MSC. The

contracts contain the terms under which the worker will be provided; they

are usually in standard form, altered only for assignment-specific matters

such as hourly rate or location of work;

the individual (or the agency) then informs the MSC scheme provider on a

regular basis how many hours have been worked; these are then invoiced to

the end client by the MSC scheme provider. Finally, the end client pays the

scheme provider or MSC via the agency;

when funds are received, the MSC scheme provider deducts an

administration fee, retains an amount to cover tax and NICs and pays the

balance into the worker’s bank account – usually as a mix of salary,

Box 2.5: Structure of a Managed Personal Service Company scheme

Operation of

MSCs in

practice

Managed Personal Service

Step 1 – End client pays

agency for services of

worker and agency takes

fee.

Step 2 – Agency pays

Step 3 – MSC

of salary and dividends.

Payments

Contracts

The worker is paid a salary,

usually at the National

Minimum Wage. The MSC

pays employer’s NICs on

that wage; the worker pays

income tax and employee’s

NICs. The rest of the

worker’s remuneration is

treated as profit by the MSC

– corporation tax is paid on

it and it is distributed to the

worker as dividends. As long

as the worker is a basic rate

taxpayer no income tax is

due on the dividends and

there is no NICs charge on

dividend income.

Page 15

ROVISION OF LABOUR SERVICES IN THE MODERN LABOUR MARKET

Tackling Managed Service Companies

dividends and expense reimbursements. All the calculations relating to

these payments are carried out by the MSC scheme provider;

the MSC itself often does not move with the worker from one assignment to

the next – indeed the scheme provider may place another worker in the

vacated MSC, rather than the worker taking the company with them. This is

in contrast to PSCs where the company is clearly associated with its owner-

manager (the worker).

TAX CONSEQUENCES OF OPERATING THROUGH

INTERMEDIARY COMPANIES – PSCS AND MSCS

2.19

Where a worker provides his services through an intermediary company the

basic question of employment or self-employment status arises. The tax treatment of

services provided through an intermediary is governed by the Intermediaries legislation

(also known as “IR35”).

This looks at the contractual nature of the relationship between

the worker and the end client to establish whether the contract is akin to one of

employment. A service company may have a number of clients and contracts during the

year and each engagement must be considered separately. For MSCs, as for all service

companies, this means that each engagement for each individual needs to be

considered separately in order to ascertain the nature of that contract.

2.20

Where the contract is one of employment – a contract of service - the legislation

requires the intermediary company to pay employed levels of tax and NICs on that part

of the income deemed to be employment income and not already taxed as employment

income (see Box 2.6).

2.21

Where the contract has the characteristics of self-employment – a contract for

services – the Intermediaries legislation does not apply. Where the worker is a

shareholder this offers the opportunity to receive the reward for his services in the form

of dividends rather than, or as well as, salary. By paying dividend income in place of

salary both the worker and end client can avoid paying employed levels of tax and NICs.

Chapter 8, Part 2, Income Tax (Earnings and Pensions) Act 2003; Social Security (Intermediaries) Regulations 2000, SI 2000/727.

Intermediaries

legislation

Box 2.6: Summary of how the Intermediaries legislation works

The effect of the Intermediaries legislation is that:

where an individual (the “worker”) personally performs, or is under an obligation

personally to perform, services for the purposes of a business carried on by another

person (the end client);

but does so via an intermediary (e.g. a service company); and

works for the end client in such a way that they would be regarded as an employee of the

client, had they worked for them directly rather than via the service company;

the service company has to deduct PAYE and pay NICs in respect of the worker on,

broadly, all of the money the service company receives in respect of the work done for

the end client by that worker.

Page 16

ROVISION OF LABOUR SERVICES IN THE MODERN LABOUR MARKET

Tackling Managed Service Companies

MSCS ARE ALMOST INVARIABLY DISGUISING EMPLOYMENT

2.22

In contrast to PSCs, the worker is almost invariably not in business on his own

account and the underlying nature of the contracts in which he is involved is one of

employment. The Intermediaries legislation should ensure that employed levels of tax

and NICs are paid but HMRC’s compliance activity suggests that in the vast majority of

cases MSC schemes are not complying with this legislation.

MSCs avoid paying employed levels of tax and NICs

2.23

The worker in an MSC is usually paid a salary at the National Minimum Wage

(this is necessary because he is usually an employee of the MSC), and the rest of his

remuneration is paid in the combination of reimbursed expenses and dividends to

minimise the tax and NICs paid.

2.24

MSCs often use the rules on tax relief for employee travel to reduce the tax and

NICs liability of individual workers. Workers in MSCs are treated as having one

employment (with the MSC). This allows each location they work at to be treated as a

temporary workplace (unless the period of continuing work at that place lasts, or it is

reasonable to assume it will last, more than 24 months). This means that the worker is

able to get tax relief on the cost of travel from home to what would otherwise have been

his permanent workplace. He is also able to get relief for the cost of overnight

accommodation and subsistence.

2.25

HMRC compliance activity has also found instances of MSCs paying travel

expenses free of tax and NICs even where no relief is due.

2.26

The higher income resulting from working through an MSC scheme is a central

part of the marketing by MSC scheme providers (see Box 2.7).

2.27

MSC scheme providers are aware that the Intermediaries legislation may deter

workers from entering schemes and so some offer workers “IR35 proof contracts” and

“IR35 insurance” (see Box 2.8).

Travel

expenses

Box 2.7: Advertising by MSC scheme providers highlights higher income (gained

through avoiding employed levels of tax and NICs)

Most websites of MSC providers include calculation tools so that a worker can quickly work out

the change in his take home pay if he moves from employment to an MSC:

“As well as saving you time, we can also save you money by reducing the amount of tax payable

increasing net pay by anything up to 30 per cent.”

“Up to 30 per cent increase in income.”

“Take home more of your income – As a temporary worker or contractor, you can take home

more of your income…”

Source: MSC scheme provider websites

Risk of

investigation

Page 17

ROVISION OF LABOUR SERVICES IN THE MODERN LABOUR MARKET

Tackling Managed Service Companies

Increasing use of MSCs

2.28

The number of individuals working through MSCs is growing rapidly. There are

around 150 MSC scheme providers currently operating in the UK with about ten large

ones providing the vast majority of workers in MSCs.

2.29

There is a degree of uncertainty attached to estimates in this area but HMRC

analysis suggests that the number of workers in MSCs has grown from around 65,000 in

2002-03 to at least 240,000 in 2005-06 (see Chart 2.1).

2.30

While information on the range of sectors in which MSCs operate is limited,

they have a significant presence in construction, information and telecommunications

sectors and engineering. There is also increasing evidence of their use in healthcare and

teaching, where there is intensive advertising to mobile professionals from overseas to

encourage them to join MSCs when they sign up with agencies for temporary work in

the UK. There is no restriction on the sectors in which MSCs can operate and some MSC

scheme providers appear to be specialising in sectors such as contract cleaning,

transport and the oil and nuclear industries.

Box 2.8: Advertising by MSC scheme providers tries to reassure workers about the

possibility of investigation by HMRC

“As part of our commitment to contractors, [the scheme] offers comprehensive protection

against tax investigation.”

“[We provide] 100 per cent indemnity against potential IR35 tax liabilities.”

Source: MSC scheme provider websites

Numbers of

workers in

MSCs

Chart 2.1: Number of workers in Managed Service Companies broken down into

Composite Companies and Managed Personal Service Companies (MPSCs)

Source: HMRC

Sectors in

which MSCs

operate

Page 18

ROVISION OF LABOUR SERVICES IN THE MODERN LABOUR MARKET

Tackling Managed Service Companies

Problems caused by growth of MSCs

2.31

There is a degree of uncertainty attached to estimates of losses of tax and NICs

from the failure of MSCs to operate the Intermediaries legislation. However, given the

large and growing number of workers operating through MSCs, the use of MSC schemes

constitutes a significant and increasing risk to the Exchequer.

2.32

Those workers operating through service companies who do comply with the

Intermediaries legislation, and therefore pay their fair share of tax and NICs, may be

undercut by those who supply their services through an MSC that does not comply with

the legislation. Not surprisingly therefore, compliant service companies have made

representations that they are currently at risk of losing clients to MSC scheme providers.

agency legislation

have said that they risk losing business to agencies who

automatically put workers into MSCs.

2.33

It has been suggested that MSCs are simply providing low cost access to the

corporate form to individuals who wish to provide services through an intermediary

company. But workers in MSCs are almost invariably not in business on their own

account and the underlying nature of the contracts in which they are involved is one of

employment – the schemes are therefore avoiding employed levels of tax and NICs. The

Government encourages fair competition where providers of professional services offer

support services to companies allowing them to achieve economies of scale - provided

they do so in a way that ensures these companies comply with the law and pay the

appropriate levels of tax and NICs.

2.34

Company structures can also be used in an attempt to remove the worker’s

entitlement to statutory employment rights from the end client or from the agency. It is

widely perceived that an individual working through an intermediary company such as

an MSC is not entitled to employment rights from the end client (or agency, where one

is involved). While an employment tribunal can look through the corporate structure at

the underlying relationship, only a small minority of cases will reach this stage and the

Government has received representations about the potential loss of employment

rights for workers from working through an MSC scheme.

2.35

Where an individual understands the consequences of incorporation he may

make a considered decision – but many workers entering MSC arrangements are

unaware of the rights they are giving up. It is suggested that in some sectors workers

have little choice other than to join an MSC scheme.

2.36

Concerns have also been expressed that because of their lack of financial control

over the company, workers in MSC schemes could be vulnerable to unauthorised

deductions and other irregularities. While this is not an issue for the vast majority of

MSC scheme providers, there is a risk for those involved with less scrupulous providers.

2.37

The Government has also received representations from those concerned that

where MSC schemes are common this depresses the market rate for the job.

Chapter 7, Part 2, Income Tax (Earnings and Pensions) Act 2003.

As an employee of the MSC the worker is of course entitled, in theory, to the full range of employment rights from the MSC.

Exchequer

losses

Loss of level

playing field

for business

Loss of

employment

rights

Loss of level

playing field

for employees

Page 19

ROVISION OF LABOUR SERVICES IN THE MODERN LABOUR MARKET

Tackling Managed Service Companies

Improving compliance of MSCs with the Intermediaries

legislation

2.38

HMRC has emphasised that MSCs are within the scope of the Intermediaries

legislation and need to apply it where necessary. For example Tax Bulletin 60 (August

2002) outlined how the rules apply to Composite Companies and Tax Bulletin 74

(December 2004) made clear that they apply to MPSCs.

2.39

Two specialist compliance teams were set up by HMRC in 2003 to focus on MSC

schemes. These units have built up a high level of expertise and understanding of these

arrangements and have had some success in requiring MSCs to apply the

Intermediaries legislation. But enforcing compliance with the Intermediaries legislation

poses particular problems in the case of MSCs.

2.40

The contract-by-contract approach required by the legislation is very resource-

intensive. A detailed consideration of the nature of the underlying contract governing

each assignment is appropriate in the case of PSCs which have a variety of

engagements, some of which will be contracts of employment while others are self-

employment. However, in the case of MSCs where the worker is almost invariably not in

business on his own account and the underlying relationship with the end client is one

of employment the contract-by-contract approach is less appropriate. And, in view of

the growth in these schemes, it is difficult in practice to counter them on a sufficiently

wide scale.

2.41

Furthermore, the legislation necessarily operates retrospectively even where

those using the schemes comply with it – the tax liability is established at the end of the

tax year and is not due for payment until some months later. Where there is non-

compliance, HMRC has to establish liability after the event and this, combined with the

transient nature of many MSC workers, makes it very difficult to enforce payment of tax

and NICs.

2.42

Even where the MSC is still operating and the liability has been established,

MSC scheme providers have simply closed down their existing operations and started

up new MSCs. Because the MSCs have no assets, the debt cannot be enforced against

the company and the tax and NICs due cannot be collected. Box 2.9 provides an

example.

Applying the

Intermediaries

legislation to

MSCs

Problems in

collecting tax

and NICs due

Box 2.9: Case study of liquidation to avoid tax and NICs liabilities

Several Composite Companies, administered by an MSC scheme provider, were reviewed by

HMRC. The review concluded that the Composite Companies had been wrongly paying travel and

subsistence expenses free of tax and NICs and raised concerns about the application of the

Intermediaries legislation.

The MSC scheme provider set up a new set of Composite Companies. The Composite

Companies under review ceased to trade on a Friday, the new Composite Companies took on

the workers the following Monday, and the workers continued as if nothing had happened.

Because of their lack of assets, HMRC was unable to collect the tax and NICs due from the old

Composite Companies. The Composite Companies are separate legal entities, so the liability of

the Composite Companies could not be transferred to the MSC scheme provider or the workers.

Source: HMRC compliance activity

Page 20

ROVISION OF LABOUR SERVICES IN THE MODERN LABOUR MARKET

Tackling Managed Service Companies

2.43

There is evidence of schemes moving to using Limited Liability Partnerships

(LLPs) instead of companies. Although workers, as partners, are not able to avoid

paying employed levels of tax and NICs to the same extent as workers who are

shareholders in an MSC, they are able to pay self-employed levels of tax and NICs and

those engaging workers in this way pay no employer’s NICs (see Box 2.10).

GOVERNMENT RESPONSE

2.44

The Government seeks to ensure that, where the underlying nature of an

individual’s contract is one of employment, tax and NICs should be paid at employed

levels, even if the individual is working through a company.

2.45

Workers in MSCs are almost invariably not in business on their own account

and the underlying nature of the contracts in which they are involved is one of

employment and so they are within the Intermediaries legislation. However these rules

are in the vast majority of cases not being followed by MSCs – and this regime was never

intended to deal with widespread non-compliance on the scale displayed by MSCs. The

Government will therefore remove MSCs from the scope of the Intermediaries

legislation and will apply employed levels of tax and NICs to income received by

workers in respect of services provided through MSCs. The package of measures to

achieve this is described in Chapters 3 and 4.

2.46

The Intermediaries legislation will remain in place for PSCs as at present. It is

therefore important that the scope of the proposed legislative changes is carefully

defined so as to target MSCs. The next chapter sets out the characteristics of MSCs and

explains how this is reflected in the draft legislation.

Limited

liability

partnerships

Box 2.10: Case study of the use of Managed Limited Liability Partnerships

The employees of a car import firm were moved into an MSC. Although their jobs were exactly

the same as when they were employed, they were paid in dividends instead of receiving a salary.

When this arrangement was challenged under the Intermediaries legislation, the workers were

again moved overnight into a new structure. This time they became partners in a Managed Limited

Liability Partnership. They then began for the first time to claim travelling expenses for the same

home to work journey that they had been making previously.

Source: HMRC compliance activity

Page 21

Tackling Managed Service Companies

CHARACTERISTICS OF MSC

3.1

Chapter 2 described the usual structures of Managed Service Company (MSC)

schemes and the way they operate. Features described include:

in Composite Companies tens of otherwise unrelated workers hold different

classes of shares in the same company;

in Managed Personal Service Companies (MPSCs) the scheme provider is

the common link between many otherwise unrelated companies of this

type;

the worker in an MSC is generally not a director of the company, although

he is a shareholder (an individual in business on his own account through a

company would almost invariably be a director of the company); and

the MSC usually does not move with the worker as it would if it were really

his business.

3.2

But defining MSCs in these functional terms is unlikely to prove robust against

attempts to restructure to avoid being caught by the new provisions. The focus is

therefore on those characteristics which are core to the MSC business model and which

distinguish these structures. It is important to note that some of these individual

features may well be present to a greater or lesser degree in other structures; it is the

presence of these characteristics in combination that is key to identifying MSC

schemes.

3.3

As discussed in Chapter 2, MSCs provide the services of individual workers to

end clients, often through a contractual chain involving employment agencies. To this

extent, they share some of the characteristics of Personal Service Companies (PSCs).

But the presence and role of the MSC scheme provider is a distinguishing characteristic

of the MSC. The MSC scheme provider markets MSC structures and makes them

available to workers and also has an ongoing role in the administration and

management of the company.

DENTIFYING

ANAGED

ERVICE

OMPANIES

An effective definition of Managed Service Companies is key to the Government’s approach to

ensuring that the right amount of tax and national insurance contributions (NICs) is paid on

engagements through MSCs.

This chapter therefore sets out the key characteristics which distinguish MSCs from other

business structures, and in particular that differentiate MSCs from Personal Service Companies

(PSCs). The characteristics identified form the basis of the approach taken by the draft legislation.

This chapter describes the draft legislation defining MSCs and seeks views on whether all the

characteristics of MSCs have been captured and whether the draft legislation strikes the right

balance between the objectives of being well-targeted, clear about who is affected and who is not,

and robust against avoidance.

Page 22

DENTIFYING

ANAGED

ERVICE

OMPANIES

Tackling Managed Service Companies

3.4

MSC scheme providers play a central role in the structure of the MSCs by:

setting up the companies and allocating individual workers to them;

often providing, usually via a nominee company, a company director and a

company secretary for the MSC; and

often providing corporate directors for hundreds or even thousands of

MSCs.

3.5

The MSC scheme provider exercises a high degree of financial and management

control over the MSC.

In this context “control” takes its general meaning (and not the

meaning specified in section 416 or 839 of the Income and Corporation Taxes Act 1988).

In MSC structures typically the MSC scheme provider:

exercises general control over the structure and management of the

company. For example, on setting up the company, the MSC scheme

provider determines the number of shareholders and is responsible for

allocating classes of shares;

has control of the bank account into which the income of the MSC is paid.

This is often a single account into which the income of many MSCs is paid.

Often the MSC does not have its own bank account;

deducts from the income flowing into the bank account his own fee and

retains an amount intended to meet the MSC’s future corporation tax

liability on its profits together with the Pay As You Earn (PAYE) and national

insurance contributions (NICs) due on the salary paid to the worker

(generally paid at the rate of the National Minimum Wage), earning interest

on the retained sum until the tax and NICs are to be paid; and

makes the decisions on how income generated by the worker is converted

into maximum take home pay. The only decision the worker really makes is

how many hours to work and what expenses to claim.

3.6

The worker is therefore not exercising financial or management control over the

MSC (see Box 3.1). This is very different from the normal provision of services by an

accountant or professional adviser to a client company.

Although the workers in MSCs hold shares in their MSC, this control is only nominal and effective control is with the MSC

scheme provider.

Role of

scheme

provider in

the MSC

structure

Role of scheme

provider in

financial and

management

control

Lack of

control by the

worker

Box 3.1: Examples from MSC scheme advertising which show the lack of financial and

management control on the part of the worker

“We administer your limited company: we manage your company bank account.”

“[You are] an employee operating on a limited company basis.”

Source: MSC scheme provider websites

Page 23

DENTIFYING

ANAGED

ERVICE

OMPANIES

Tackling Managed Service Companies

The draft legislation

3.7

The draft legislation aims to define an MSC based on these distinguishing

characteristics and to ensure that as far as possible the definition is:

well-targeted – including in its scope those structures that are intended to be

within its scope without capturing other structures;

clear – easy to judge whether a structure falls within the definition; and

robust – not easily circumvented by MSC scheme providers making small

alterations to their arrangements.

3.8

The Government recognises that any workable definition will involve trade-offs

between objectives.

3.9

The draft legislation in Annex B defines MSCs, takes them out of the scope of the

current rules applying to workers providing their services through an intermediary, and

applies a new tax treatment. Payments received by workers in relation to their services

provided through an MSC will be treated as employment income subject to the normal

PAYE and NICs rules. This chapter focuses on defining MSCs as distinct from other

corporate forms and Chapter 4 describes how the tax charge will operate.

3.10

The legislative definition of an MSC works in two stages. The first is to describe

an MSC as one which provides the services of workers and which does so through a

“managed service company scheme”. The second stage is to define a “managed service

company scheme”. This is defined as a scheme or arrangement that fulfils four criteria:

the services of workers are provided by companies to others;

the majority of the money earned by the worker for their services provided

through the company is paid to the worker;

a person termed the “scheme provider” (or their associate) exercises control

over the company’s finances or general management; and

the workers whose services are being provided do not exercise control.

3.11

“Company” is defined as meaning a company or partnership of whatever

description. If the new legislation covered only limited liability company MSCs, it is

likely that MSC scheme providers would simply set up Managed Limited Liability

Partnerships (LLPs) and continue to disguise employment that way. The legislation will

therefore cover LLPs and, because there is potential to exploit Limited Partnerships and

General Partnerships in a similar manner to LLPs, it covers all types of partnerships.

3.12

The definition of MSCs is not intended to include Personal Service Companies.

The key distinction here is about who exercises financial and management control. In a

PSC it is the worker (who is usually a director of the company) who will usually exercise

control of the company, including control of the company bank account. An accountant

or other professional adviser may give advice and provide services to the company,

such as running the payroll, but this does not amount to control.

3.13

In view of the central role performed by the definition of an MSC, the draft

clause defining the scope of the provisions (clause 61B in Annex B) is analysed in detail

in the table below.

Aims of the

legislation

Page 24

DENTIFYING

ANAGED

ERVICE

OMPANIES

Tackling Managed Service Companies

In an Umbrella Company (also known as a management company) the worker is an employee of that company and his

engagements through an employment agency are routed via the company. The worker is paid a salary on which employed levels

of tax and NICs are paid.

Box 3.2 Explanation of Section 61B ‘Meaning of “managed service company”’

This commentary on the draft clauses is a guide to the Government’s intention as to how the

legislation would operate if enacted in this form.

Draft legislation

Explanation

61B (1) A company is a “managed service

company” if –

This subsection defines an MSC by reference

to two criteria. Both criteria must be satisfied

for a company to fall within the definition.

(a) its business consists wholly or mainly of

providing (directly or indirectly) the services

of individuals to other persons, and

The first criterion is that the business carried

on by the company must be that of, or must

mainly be that of, supplying the services of

individual workers to those who wish to

purchase them. The criterion applies whether

the services are supplied directly or indirectly.

MSCs, Personal Service Companies, Umbrella

Companies

and employment agencies would

all meet this criterion in isolation but, to be

an MSC, the other criterion must also be met.

(b) it provides those services in pursuance of

a managed service company scheme.

The second criterion refers to the nature of

the arrangements under which the company

supplies the services of the workers. It

introduces the term “managed service

company scheme” which is defined in

subsection (2).

(2) “Managed service company scheme”

means a scheme or arrangement –

Subsection (2) defines “managed service

company scheme” by reference to three

criteria, all of which have to be met for these

new provisions to apply.

(a) under which the services of individuals

(“the workers”) are provided (directly or

indirectly) by companies to other persons,

The first criterion makes clear that the nature

of the scheme or arrangement must involve

companies providing the services of individual

workers to those who wish to purchase their

services. The criterion applies whether the

services are supplied directly or indirectly.

Page 25

DENTIFYING

ANAGED

ERVICE

OMPANIES

Tackling Managed Service Companies

CONSULTING ON THE LEGISLATIVE DEFINITION

3.14

The Government would welcome views on the scope of the draft legislation and,

in particular, whether there are other defining characteristics of MSCs that should be

reflected in the legislation.

3.15

The Government is keen to keep the legislation as simple as possible so that

people can make their own judgements as to whether their business arrangements

meet the criteria for being defined as an MSC or not. There will be additional guidance

(b) under which the greater part of the

consideration for the provision of the services

is paid (directly or indirectly) to the

individuals or their associates, and

The second criterion is that the scheme or

arrangement entails the payment of most of

the amount paid in return for the services of

the individuals whose services have been

supplied directly or indirectly, to those

individuals, or to their associates.

makes the scheme or arrangement available

(“the scheme provider”), or an associate of

the scheme provider, exercises control over

the finances or general management of the

companies (and the workers do not exercise

control over such matters).

The third criterion relates to the key role

played by the scheme provider in an MSC

scheme. It is the role of the scheme provider

and the control they exercise which

particularly distinguishes the arrangements

targeted by these new provisions.

First of all, the scheme provider is identified

as making available the package of

arrangements under which the services of

workers are supplied. Then, crucially, it goes

on to identify the scheme provider, or an

associate of the scheme provider, as

exercising control over the finances or

general management of the companies which

as a result of the scheme or arrangement are

directly or indirectly providing the services of

individuals. In this context “control” takes its

general meaning and not that specified in

section 416 or 839 of the Income and

Corporation Taxes Act 1988. The legislation

described here relates to who is controlling

the companies in practice and not to rights to

exercise control. Finally, it is important to

note, the paragraph makes clear that in a MSC

scheme the workers whose services are being

supplied are not themselves exercising

control of the companies supplying their

services.

(3) In this section “company” means a body

corporate or partnership.

This subsection makes clear that the term

company in this definition includes

partnerships as well as corporate bodies.

Questions for

consultation

Page 26

DENTIFYING

ANAGED

ERVICE

OMPANIES

Tackling Managed Service Companies

to assist the lay reader. The Government would welcome views on the clarity of the

legislation.

3.16

At the same time, it is important that the legislation should be robust against

attempts to circumvent it by re-structuring or devising new arrangements purporting to

be outside its scope. The Government would therefore welcome views on whether the

legislation could be strengthened further and, if so, how.

Page 27

Tackling Managed Service Companies

TAX TREATMENT FOR MSCS

4.1

The Government proposes to introduce legislation in Finance Bill 2007 to:

oblige the Managed Service Company (MSC) to operate Pay As You Earn

(PAYE) on the income received by workers in the MSC in relation to their

services provided through the MSC (national insurance contributions (NICs)

obligations will arise by virtue of regulations to be laid immediately after the

Finance Act receives Royal Assent);

apply rules for tax relief for travel expenses to put MSC workers in the same

position as other employed workers by treating each of their engagements

with an end client as if it was a separate employment with the end client,

carried out at a permanent workplace; and

address the problem of MSCs escaping payment of tax and NICs due by

allowing the recovery of these debts from appropriate third parties where

the MSC does not pay.

4.2

Draft legislation on the tax charge and related provisions is included in this

document at Annex B, with a commentary on the key provisions at Annex C. The

proposed measures on debt transfer are outlined in broad terms in this chapter and the

Government aims to publish draft legislation for comment by the end of January 2007.

The tax charge

4.3

As described in Chapter 2, workers in MSCs are almost invariably not in

business on their own account and the underlying nature of the contracts in which they

are involved is one of employment. The approach of the new provisions therefore is to

ensure that those within their scope will pay tax and NICs as though they had been

directly employed.

4.4

The new legislation will mean that the existing Intermediaries legislation no

longer applies to MSCs and those working through them. Instead, where a worker

providing their services through an MSC receives payment for those services, the MSC is

treated as making a payment of employment income to the worker. The MSC will be

obliged to operate PAYE and pay NICs in the usual way.

4.5

Under the draft new provisions (draft clause 61C in Annex B), it does not matter

whether the worker receives payment:

directly from the MSC or via a third party; or

HANGES IN THE TAX TREATMENT OF

ANAGED

ERVICE

OMPANIES

This chapter describes the proposed new tax charging provisions to be applied where services are

provided through Managed Service Companies.

It also describes supporting measures to improve the information available to HM Revenue and

Customs to monitor the effectiveness of the proposed changes and to improve the targeting of

compliance activity.

Page 28

HANGES IN THE TAX TREATMENT OF

ANAGED

ERVICE

OMPANIES

Tackling Managed Service Companies

in person or to an associate of the worker (for example their spouse); or

in cash or non cash form; or

described as a “dividend” or some other type of income.

The MSC is still treated as making a payment of employment income to the worker, and

the worker is treated as having received it.

4.6

Draft clause 61D covers the calculation of the amount of money to which PAYE

and NICs is to be applied (the draft legislation calls this the “deemed employment

payment”). The effect of these measures is that the MSC will pay employer’s NICs on

the amount received for the services of the worker less any allowable expenses. Income

tax and employee’s NICs will be due on the amount received for the worker’s services,

less allowable expenses, less the amount of employer’s NICs payable. The MSC is

responsible for paying to HMRC on a monthly basis the employer’s and employee’s

NICs and the income tax due under PAYE.

4.7

Under this new tax treatment, in deciding what expenses can be deducted in

arriving at the amount to which tax and NICs apply, the cost of travel between the

worker’s home and the place at which they work for the end client is not an allowable

expense. This is because in determining what, if any, expenses are deductible, the

worker is treated as an employee of the end client. The cost of travel to each

engagement is therefore not allowable. This puts a worker in the same position as they

would have been had they worked directly for the end client.

4.8

Draft clause 61G in Annex B covers the situation should the MSC pay dividends

which, under these new provisions, are treated as part of the employment income of the

worker. The legislation provides for relief to be given to avoid a double charge to tax.

4.9

In calculating the profits on which the MSC has to pay either corporation tax (as

a company) or income tax (as a partnership), account needs to be taken of this new

treatment of sums received by the worker. In respect of those sums, the company, or

partnership, is only allowed to deduct in working out its profits:

the amounts paid out to the worker in the form of employment income;

the amounts treated as employment income of the worker by these new

provisions;

the employer’s NICs on both of those; and

the expenses paid out to the worker (which the worker is entitled to deduct

from taxable earnings).

4.10

This is in the draft legislation in Annex B as section 164A Income Tax (Trading

and Other Income) Act 2005 and Paragraph 7 (to supplement Chapter 5 Income and

Corporation Taxes Act 1988).

4.11

Government would welcome comments on the draft legislation on the tax

charging provisions, including treatment of expenses, at Annex B – this is

supplemented by detailed explanation of the clauses at Annex C.

Transfer of PAYE and NICs debts

4.12

Currently, where HM Revenue and Customs (HMRC) successfully identifies that

the Intermediaries legislation applies to an MSC and establishes the PAYE and NICs

“Deemed

employment

payment”

Travel

expenses

Distributions

Calculating

the MSC’s

profits

Question for

consultation

Page 29

HANGES IN THE TAX TREATMENT OF

ANAGED

ERVICE

OMPANIES

Tackling Managed Service Companies

liability, in practice the debt often cannot be collected. As described in Chapter 2,

effective enforcement action to collect the debt is often not possible because these

companies generally have no tangible assets and it is easy for the company to be wound

up or simply cease trading and for workers to move to a new MSC.

4.13

HMRC currently has powers to transfer debts for PAYE and NICs relating to an

individual employee and unpaid by their employer to that employee.

However, this

requires the employee to have been aware of the employer’s “wilful” failure to deduct

the PAYE due.

4.14

In the light of the scale of non-compliance with the Intermediaries legislation

and the difficulties in recovering PAYE and NICs from MSCs, the Government has

decided to introduce specific legislation in relation to MSCs which will allow PAYE and

NICs debts due from them to be transferred to appropriate third parties who have been

involved directly or indirectly in, and who have materially benefited from, the MSC’s

provision of services.

4.15

The proposed legislation will list the parties to whom the debt might be

transferred. It is envisaged that the list of appropriate third parties, who could have

been involved directly or indirectly in the MSC’s provision of services and materially

benefited from it, will cover:

the MSC scheme provider (as defined in the proposed legislation outlined

above);

a person in accordance with whose directions or instructions the directors of

the company (the MSC or the scheme provider) are accustomed to act (a

shadow director);

an associate of the MSC or scheme provider (as defined in s60, Part 2,

Chapter 8 Income Tax (Earnings and Pensions) Act 2003);

connected persons in relation to the MSC or scheme provider (as defined in

s839 Income and Corporation Taxes Act 1988); and

controlling parties in relation to the MSC or scheme provider (as defined in

s840 Income and Corporation Taxes Act 1988).

4.16

Where any of the parties listed are bodies corporate, it is proposed that liability

will be joint and several between the company and its officers.

4.17

The Government would welcome views on to what extent the draft legislation

should cover other parties who have materially benefited from the MSC’s provision of

services (such as the agency through which the services were provided). For example,

this might be appropriate where a debt is irrecoverable because a scheme provider or

other party has moved operations or assets offshore.

4.18

The proposed legislation will allow HMRC to seek to recover the PAYE and NICs

debt of an MSC from any one of the parties actively involved with the MSC who is

within the scope of the legislation. HMRC will issue a notice directing that the debt be

transferred to a specified third party. It is intended that the party will have a right of

appeal on the grounds that:

Regulation 72, Income Tax (Pay As You Earn) Regulations 2003, SI 2003/2682, Regulation 86, Social Security (Contributions)

Regulations 2001, SI 2001/1004.

Appropriate

third parties

Page 30

HANGES IN THE TAX TREATMENT OF

ANAGED

ERVICE

OMPANIES

Tackling Managed Service Companies

they are not a party within the scope of the legislation; or that

while a party within the scope of the legislation, they were not involved

directly or indirectly in the MSC’s provision of the services of the workers

and that they did not materially benefit from the MSC’s provision of those

services.

4.19

If the debt proves irrecoverable from that party then the notice can be cancelled

and a new notice issued to another party. Any party subsequently issued with a notice

will also have a right of appeal.

4.20

The Government aims to publish draft legislation covering the transfer of debt

by the end of January 2007 for discussion. The Government would welcome comments

in the intervening period.

When will the tax changes take effect?

4.21

The Government intends to introduce legislation in Finance Bill 2007 so that:

the income tax changes are intended to take effect from 6 April 2007. All

payments received after that date will be deemed to be employment income

and subject to deduction of tax under PAYE;

changes in the national insurance rules are intended to take effect after

Royal Assent by way of changes to the NICs regulations. Following that date,

the MSC will have to account for employer’s and employee’s Class 1 NICs on

all deemed employment income, alongside payment of tax under PAYE.

4.22

It is intended that the proposed legislation on debt transfer will have effect from

the date of Royal Assent but will relate to debts incurred from 6 April 2007.

4.23

It will be important for scheme providers operating MSC arrangements, the

workers providing their services and those to whom services are provided to have a

clear understanding of the proposed changes and the implications for them. The

Government plans a targeted information campaign to assist the parties involved in

MSC schemes in understanding and preparing for the intended changes.

SUPPORTING INFORMATION MEASURES

4.24

The responsibility for considering the new legislation and ensuring that they

have made the appropriate tax and NICs deductions and payments lies with MSCs.

HMRC will be responsible for ensuring compliance with the new rules.

4.25

In order to monitor the effectiveness of the changes and to better target

compliance activity, the Government will introduce specific supporting measures to

improve the information available to HMRC, as outlined below.

4.26

Information about the application of the Intermediaries legislation is currently

obtained through the end of year return completed by employers (the P35). Two

questions on the P35 form will be revised. These currently ask:

Are any of your contracts caught by IR35?; and

If so, have you paid your tax by attaching it to a P14?

Question for

consultation

P35 return

Page 31

HANGES IN THE TAX TREATMENT OF

ANAGED

ERVICE

OMPANIES

Tackling Managed Service Companies

4.27

These questions will be revised to ask:

Are you a service company? (with a clear definition of “service company” to

enable a judgment to be made readily); and

If yes, have you operated the Intermediaries legislation or the new MSC

legislation?

4.28

The changes will be made to the P35 form covering the tax year 2007-08.

4.29

Two additional questions will also be asked on the Income Tax Self Assessment

(ITSA) return asking if any income (of whatever nature) in the return is derived from the

taxpayer’s provision of their services via a service company and, if so, the amount.

These changes will be introduced to the ITSA return form for 2007-08.

ITSA return

Page 32

Page 33

Tackling Managed Service Companies

THE CURRENT SITUATION

5.1

These measures are targeted specifically at Managed Service Company (MSC)

schemes and there will be no wider consequences for other contractors such as

Personal Service Companies (PSCs), where the current rules continue to apply. For MSC

schemes, the overall impact of the tax charging provisions set out in Chapter 4 will be to

remove their ability to avoid employed levels of tax and national insurance

contributions (NICs). The consequences for the different parties involved will depend

on how much they each currently benefit from the scheme.

5.2

The proceeds of these contrived tax and NICs arrangements are shared between

the various parties involved - the MSC scheme provider, the worker, the agency and the

end client. The amount by which each party benefits varies according to competitive

forces such as the number of MSC scheme providers within the sector, the demand for

workers’ skills and the level of competition by agencies for the workers and for contracts

from end clients.

5.3

The MSC scheme provider always benefits, taking a significant proportion of the

proceeds of the contrived tax arrangement as a fee. This fee is usually either fixed at a

particular sum each week, or a percentage of the payments to the MSC. Usually it is

between £15 and £35 per week, or around £800 - £1,800 over a year for each worker. This

is significantly more than the fees that an accountant might typically charge a small

business for preparation of accounts, corporation tax computations and filing, and

routine meetings and enquiries (usually around £400-£700 per year).

5.4

Some MSC scheme providers also profit from the interest accruing on the

amounts deducted from incoming payments against the MSC’s corporation tax liability.

The tax is generally withheld by the MSC scheme provider as soon as the worker is paid

– but it may be up to two years before the corporation tax needs to be paid to HM

Revenue and Customs (HMRC).

5.5

In most cases the worker receives a proportion of the proceeds of the contrived

tax arrangement in increased take-home pay – the increased income compared with

employment is generally the key selling point used to attract workers into MSC

schemes, as illustrated in the advertising material discussed in Chapter 2. The most

common scenario is for the proceeds to be shared between the MSC scheme provider

and the worker, although in many cases workers are unaware that the MSC has avoided

paying employed levels of tax and NICs.

5.6

In rare cases, the worker does not receive any share of the proceeds. This can

happen where workers sign paperwork they do not understand and subsequently work

through an MSC without understanding any of the implications. HMRC compliance

units have anecdotal evidence of this happening to vulnerable workers such as recent

immigrants, but individual workers in such situations have been reluctant to co-operate

with investigations.

MPACT OF THE MEASURES

This chapter looks at the expected impact of the measures on the main participants and on the

wider operation of the labour market.

MSC scheme

provider

Worker

Page 34

MPACT OF THE MEASURES

Tackling Managed Service Companies

5.7

On other occasions the worker may understand the implications of working

through a company, particularly in terms of loss of employment rights, but is given little

choice (see Box 5.1).

5.8

The evidence available suggests that agency fees do not tend to vary according

to whether an MSC is involved. But agencies who use MSC schemes may be able to gain

more business by offering workers higher take-home pay or end clients lower prices.

Additionally, an agency could gain a share of the proceeds of the contrived tax

arrangements if the price for a worker negotiated with an end client assumes Pay As You

Earn (PAYE) is being operated and NICs are being paid, but the agency does not do so,

because the worker is in an MSC scheme, and does not pass on all the reductions to the

worker. Agencies are required to operate PAYE and pay NICs on payments made to

agency workers where the worker is being directed by the end client, but not on

payments made with respect to individuals working through companies. Some agencies

have set up an associated MSC scheme and encourage their workers to join it, removing

the obligation on the agency under the agency legislation to operate PAYE and pay

NICs.

5.9

Where an agency is involved (around 90 per cent of workers in MSC

arrangements) the evidence suggests that the end client does not tend to share the

proceeds of the contrived tax arrangement, or only does so to a small extent (the main

benefit to the end client of agency workers, whether in MSC schemes or not, is often the

lack of employment obligations). This may be because agency price structures for

different types of workers are set by the wider market and do not tend to vary when an

MSC is involved. In the case of one large agency, the fee is agreed with the end client

first and the worker is then asked whether he wants to work through an MSC or as an

agency worker on PAYE. The tax difference is usually made clear, although the impact

on employment rights may not be.

5.10

However, some end clients can gain a share of the proceeds of the contrived tax

arrangement, especially where they contract directly with the MSC (around ten per cent

of workers in MSC arrangements). In other cases, the end client may benefit if the

agency charges a lower gross amount for a worker in an MSC scheme.

Employment

rights

Box 5.1: Sometimes workers are given little choice about working through MSC

schemes

Bolt-on MSC schemes for the whole workforce

In so-called “bolt-on” MSC schemes, a scheme provider approaches an end client and sets up a

specific MSC scheme for that end client. The existing employees are all moved into the MSC

scheme, despite the fact they are carrying out the same activity as when they were direct

employees.

Individual worker

In one particular case a worker was taken on to replace a direct employee. The worker had

exactly the same role as the employee who was his predecessor. However, he was told that he

was to be paid via an MSC scheme and given no alternative option.

Source: HMRC compliance activity

Agencies

End client

Page 35

MPACT OF THE MEASURES

Tackling Managed Service Companies

WHAT WILL CHANGE AS A RESULT OF THESE MEASURES

5.11

By taking specific and targeted action against MSC schemes the Government is

achieving its objectives in a way that is compatible with the labour market continuing to

operate as at present and in a way that does not impact on those in business on their

own account.

Exchequer protected

5.12

These measures will ensure that those currently in MSC schemes will pay the

appropriate level of tax and NICs. There is a degree of uncertainty attached to estimates

of revenue losses from the failure of MSCs to operate the Intermediaries legislation;

based on cautious assumptions the estimated yield to the Exchequer of these measures

is £350 million in 2007-08, £450 million in 2008-09 and £250 million in 2009-10.

The

package will also deter future use of MSC schemes, protecting the Exchequer against

future losses.

Level playing field for compliant businesses

5.13

These measures will help restore a level playing field for those businesses which

apply the Intermediaries legislation correctly – including providers of professional

services to contract workers, agencies and PSCs. Those end clients who ensure that they

only contract with compliant businesses will no longer be undercut by those who,

knowingly or unknowingly, use MSC workers.

Labour market flexibility unaffected

5.14

There is unlikely to be any significant impact on the labour market as a result of

these measures. Workers will be more likely to work as agency workers or employees,

rather than through MSCs, and therefore be entitled to the relevant employment rights.

End clients who value the flexibility of agency workers or contract workers will be able

to continue to use them – and agencies will be able to continue to supply them – as at

present. And those who are in business on their own account will be able to continue to

operate through PSCs.

PARTIAL RIA

5.15

A partial Regulatory Impact Assessment (RIA) is published at Annex D of this

document. This analyses the main economic and sectoral impacts of the measure based

on information currently available. The final RIA, which will benefit from the

consultation, will be published alongside the final measures at Budget 2007.

This is higher in the earlier years as the reduction in corporation tax receipts from MSCs does not occur until after the increase

in tax and NICs receipts.

Page 36

Page 37

Tackling Managed Service Companies

TIMETABLE FOR CHANGE

HE CONSULTATION PROCESS

Date

Action

6 December 2006

Publication of draft legislation on definition and tax

charge – consultation period begins

Around end January 2007

Publication of draft national insurance contributions

(NICs) regulations and draft legislation relating to

transfer of debt

2 March 2007

Close of consultation period

Budget 2007

Final package of measures

Finance Bill 2007

Legislation for full package of measures

6 April 2007

Subject to Parliamentary approval, new rules start

for income tax, expenses and debt transfer

provisions

After Royal Assent of the Finance Bill

Subject to Parliamentary approval, new rules start

for NICs

Page 38

HE CONSULTATION PROCESS

Tackling Managed Service Companies

SUMMARY OF QUESTIONS FOR CONSULTATION

6.1

The draft legislation relating to the definition and tax charging provision is set

out in Annex B. The Government aims to publish draft legislation on the debt transfer

provision by the end of January 2007 for comment.

Definition of MSCs

6.2

The definition is discussed in Chapter 3 with a detailed commentary on the

clauses.

6.3

The Government would welcome views on the scope of the draft legislation and,

in particular, whether there are other defining characteristics of Managed Service

Companies (MSCs) that should be reflected in the legislation.

6.4

The Government is keen to keep the legislation as simple as possible so that

people can make their own judgements as to whether their business arrangements

meet the criteria for being defined as an MSC or not. There will be additional guidance

to assist the lay reader. The Government would welcome views on the clarity of the

legislation.

6.5

At the same time, it is important that the legislation should be robust against

attempts to circumvent it by re-structuring or devising new arrangements purporting to

be outside its scope. The Government would therefore welcome views on whether the

legislation could be strengthened further and, if so, how.

Tax charging provision

6.6

The tax charging provisions are discussed in Chapter 4, with a detailed

commentary in Annex C.

6.7

The Government would welcome comments on the draft legislation on the tax

charging provisions, including treatment of expenses.

Debt transfer provision

6.8

The debt transfer provision is discussed in Chapter 4 and the Government aims

to publish draft legislation by the end of January 2007 for discussion. The Government

would welcome comments on this issue in the intervening period.

PROCESS AND TIMETABLE FOR CONSULTATION

6.9

Comments on this consultation should be sent by 2 March 2007 to:

or e-mail: msc.consultation@hm-treasury.gov.uk

Telephone queries: 020 7270 6114

Page 39

HE CONSULTATION PROCESS

Tackling Managed Service Companies

Confidentiality Disclosure

6.10

Information provided in response to this consultation, including personal

information, may be published or disclosed in accordance with the access to

information regimes (these are primarily the Freedom of Information Act 2000 (FOIA),

the Data Protection Act 1998 (DPA) and the Environmental Information Regulations

2004).

6.11

If you want the information that you provide to be treated as confidential,

please be aware that, under the FOIA, there is a statutory Code of Practice with which

public authorities must comply and which deals, amongst other things, with obligations

of confidence. In view of this it would be helpful if you could explain to us why you

regard the information you have provided as confidential. If we receive a request for

disclosure of the information we will take full account of your explanation, but we

cannot give an assurance that confidentiality can be maintained in all circumstances.

An automatic confidentiality disclaimer generated by your IT system will not, of itself,

be regarded as binding on HM Treasury (HMT) or HM Revenue and Customs (HMRC).

6.12

HMT and HMRC will process your personal data in accordance with the DPA

and in the majority of circumstances, this will mean that your personal data will not be

disclosed to third parties.

ABOUT THE CONSULTATION PROCESS

6.13

This consultation is being been conducted in accordance with the consultation

criteria in the Cabinet Office Code of Practice (see Box 6.1). If you wish to access the full

version of the Code, you can obtain it at:

www.cabinetoffice.gov.uk/regulation/Consultation/Code

Page 40

HE CONSULTATION PROCESS

Tackling Managed Service Companies

Box 6.1: The consultation criteria

1. Consult widely throughout the process, allowing a minimum of 12 weeks for written

consultation at least once during the development of the policy.

2. Be clear about who may be affected, what questions are being asked, and the timescale for

responses.

3. Ensure that your consultation is clear, concise and widely accessible.

4. Give feedback regarding the responses received and how the consultation process influenced

the policy.

5. Monitor your department’s effectiveness at consultation, including through the use of a

designated consultation co-ordinator.

6. Ensure your consultation follows better regulation best practice, including carrying out a

Regulatory Impact Assessment if appropriate.

If you feel that the consultation does not satisfy these criteria, or if you have any complaints about

the process, please contact:

Duncan Calloway

Better Regulation Unit

Telephone: 020 7147 2389 or duncan.calloway1@hmrc.gsi.gov.uk

Page 41

Tackling Managed Service Companies

Note: this glossary defines terms as they are used in the main body of the

document and not as they appear in existing or any proposed legislation. Words

may have different meanings in other contexts or documents. For example

employment status and its vocabulary often differ in tax law and employment

law.

Agency in this document is used to refer to an agency which supplies workers to

end clients and remains part of the ongoing relationship between worker and

end client (technically known as an employment business). This differs to an

introduction agency (known as an employment agency). These terms are defined

in the Employment Agencies Act 1973, as amended by the Employment

Relations Act 1999.

Subject to certain conditions, the agency legislation (s44-47, Chapter 7, Part 2,

Income Tax (Earnings and Pensions) Act 2003) applies where a worker provides

services to a client through a third party in such a way that, technically, the

worker is not an employee of either.

Subject to certain conditions, the services rendered by the worker are, for

income tax and national insurance contributions (NICs) purposes, treated as if

they were the duties of an employment held by the worker. The agency is treated

as the secondary contributor for Class 1 NICs purposes.

An agency worker is an individual who is engaged on a temporary basis through

an agency for a third party organisation (the end client).

A type of Managed Service Company. See paragraphs 2.15 to 2.16 for a

description.

An organisation which requires labour services. For example, in a direct

employment relationship, the end client is the employer.

Unless otherwise stated, in this document the Intermediaries legislation refers to

both the income tax and the NICs rules that govern the treatment of services

provided through an intermediary. The rules are contained within Chapter 8,

Part 2, Income Tax (Earnings and Pensions) Act, 2003, Section 4A, Social

Security Contributions and Benefits Act 1992, and Social Security

(Intermediaries) Regulations 2000, SI 2000/727.

The aim of the legislation is to eliminate the avoidance of tax and NICs through

the use of intermediaries, such as service companies or partnerships, in

circumstances where an individual worker would otherwise -

for tax purposes, be regarded as an employee of the client; and

for NICs purposes, be regarded as employed in employed earner’s

employment by the client.

The legislation ensures that, if the relationship between the worker and the

client would have been one of employment had it not been for an intermediary,

such as a service company or a partnership, the worker pays broadly tax and

NICs on a basis which is fair in relation to what an employee of the client would

pay.

LOSSARY OF TECHNICAL TERMS

Agency

legislation

Agency worker

Composite

Company

End client

Intermediaries

legislation

(IR35)

Page 42

LOSSARY OF TECHNICAL TERMS

Tackling Managed Service Companies

A type of Managed Service Company. See paragraph 2.17 for a description.

Used in this document to refer to anyone, whether employed or self-employed,

who provides a service to an end client. Note that the term has a more specific

meaning in employment law.

Managed

Personal Service

Company (MPSC)

Worker

Page 43

0DQDJHGVHUYLFHFRPSDQLHV

&217(176

0DQDJHGVHUYLFH FRPSDQLHV

6FKHGXOH u 0DQDJHGVHUYLFHFRPSDQLHV

3DUW u $PHQGPHQWVRI,7(3$

3DUW u 2WKHUDPHQGPHQWV

3DUW u &DOFXODWLRQRISURILWVIRUFRUSRUDWLRQWD[SXUSRVHV

Tackling Managed Service Companies

RAFT LEGISLATION

Page 44

0DQDJHGVHUYLFH FRPSDQLHV

0DQDJHGVHUYLFHFRPSDQLHV

7KH6FKHGXOHFRQWDLQVSURYLVLRQVDERXWPDQDJHGVHUYLFHFRPSDQLHV

7KH6FKHGXOHKDVHIIHFWIRUWKHWD[ \HDU DQGVXEVHTXHQWWD[\HDUV

RAFT LEGISLATION

Tackling Managed Service Companies

Page 45

0DQDJHGVHUYLFHFRPSDQLHV

6FKHGXOHu 0DQDJHGVHUYLFHFRPSDQLHV

6 & + ( ' 8 / (

6HFWLRQ

$1$*(' 6(59,&( &203$1,(6

$57

0(1'0(176 2)

,7(3$

,7(3$ LVDPHQGHGDVIROORZV

,Q&KDSWHU RI3DUW WD[RQHPSOR\PHQWLQFRPH LQVHFWLRQ PHDQLQJ

RIqHPSOR\PHQWLQFRPHrHWF IRUSDUDJUDSK D VXEVWLWXWHu

q D &KDSWHUV WR RIWKLV 3DUW DJHQF\ZRUNHUV ZRUNHUVXQGHU

DUUDQJHPHQWV PDGH E\ LQWHUPHGLDULHV DQG ZRUNHUV

SURYLGLQJVHUYLFHVWKURXJKPDQDJHG VHUYLFHFRPSDQLHV r

,Q &KDSWHU RI WKDW 3DUW ZRUNHUV XQGHU DUUDQJHPHQWV PDGH E\

LQWHUPHGLDULHV LQVHFWLRQ VFRSHRIWKH&KDSWHU IRUWKHqRUrDWWKHHQG

RISDUDJUDSK D VXEVWLWXWHu

q DD DSSOLHVWRVHUYLFHVSURYLGHGE\DPDQDJHGVHUYLFHFRPSDQ\

ZLWKLQWKHPHDQLQJRI&KDSWHU RIWKLV3DUW RUr

$IWHUWKDW&KDSWHULQVHUWu

+$37(5

$1$*(' 6(59,&( &203$1,(6

$SSOLFDWLRQRIWKLV&KDSWHU

$ 6FRSHRIWKLV&KDSWHU

7KLV&KDSWHUKDVHIIHFWZLWKUHVSHFWWRWKHSURYLVLRQRIVHUYLFHVE\D

PDQDJHGVHUYLFHFRPSDQ\

1RWKLQJLQWKLV&KDSWHUu

D DIIHFWV WKH RSHUDWLRQ RI &KDSWHU RI WKLV 3DUW DJHQF\

ZRUNHUV RU

E DSSOLHVWRSD\PHQWVVXEMHFWWRGHGXFWLRQRIWD[XQGHUVHFWLRQ

RI ,&7$ SD\PHQWV WR QRQ UHVLGHQW HQWHUWDLQHUV DQG

VSRUWVPHQ

%0HDQLQJRIqPDQDJHGVHUYLFHFRPSDQ\r

$FRPSDQ\LVDqPDQDJHGVHUYLFHFRPSDQ\rLIu

D LWVEXVLQHVVFRQVLVWVZKROO\RUPDLQO\RISURYLGLQJ GLUHFWO\

RULQGLUHFWO\ WKHVHUYLFHVRILQGLYLGXDOVWRRWKHUSHUVRQV DQG

E LWSURYLGHVWKRVHVHUYLFHVLQ SXUVXDQFHRIDPDQDJHGVHUYLFH

FRPSDQ\VFKHPH

RAFT LEGISLATION

Tackling Managed Service Companies

Page 46

0DQDJHGVHUYLFH FRPSDQLHV

6FKHGXOHu0DQDJHGVHUYLFHFRPSDQLHV

3DUW u$PHQGPHQWVRI,7(3$

q0DQDJHG VHUYLFH FRPSDQ\ VFKHPHr PHDQV D VFKHPH RU

DUUDQJHPHQWu

D XQGHU ZKLFK WKH VHUYLFHV RI LQGLYLGXDOV DUH SURYLGHG

GLUHFWO\RULQGLUHFWO\ E\FRPSDQLHVWRRWKHUSHUVRQV

E XQGHU ZKLFK WKH JUHDWHU SDUW RI WKH FRQVLGHUDWLRQ IRU WKH

SURYLVLRQRIWKHVHUYLFHVRIDQLQGLYLGXDOLVSDLG GLUHFWO\RU

LQGLUHFWO\ WRWKHLQGLYLGXDORUDQDVVRFLDWHRIWKHLQGLYLGXDO

DQG

F LQWKHFDVHRIZKLFKWKHSHUVRQZKRPDNHVWKHVFKHPHRU

DUUDQJHPHQW DYDLODEOH qWKH VFKHPH SURYLGHUr RU DQ

DVVRFLDWHRIWKHVFKHPHSURYLGHU H[HUFLVHVFRQWURORYHUWKH

ILQDQFHVRUJHQHUDOPDQDJHPHQWRIWKHFRPSDQLHV DQGWKH

LQGLYLGXDOVGRQRWH[HUFLVHFRQWURORYHUVXFKPDWWHUV

,QWKLVVHFWLRQqFRPSDQ\rPHDQVDERG\ FRUSRUDWHRUSDUWQHUVKLS

7KHGHHPHGHPSOR\PHQWSD\PHQW

& :RUNHUWUHDWHGDVUHFHLYLQJHDUQLQJVIURPHPSOR\PHQW

7KLVVHFWLRQDSSOLHVLIu

D WKH VHUYLFHV RI DQ LQGLYLGXDO qWKH ZRUNHUr DUH SURYLGHG

GLUHFWO\RULQGLUHFWO\ E\DPDQDJHGVHUYLFHFRPSDQ\ qWKH

06&r

E WKHZRUNHU RUDQDVVRFLDWHRI WKHZRUNHU UHFHLYHV IURPDQ\

SHUVRQ DSD\PHQWRUEHQHILWZKLFKFDQUHDVRQDEO\EHWDNHQ

WRUHSUHVHQWUHPXQHUDWLRQIRUWKHVHUYLFHV DQG

F WKHSD\PHQWRUEHQHILWLVQRWHPSOR\PHQWLQFRPHUHFHLYHG

E\WKHZRUNHUGLUHFWO\ IURPWKH06&

7KH 06& LV WUHDWHG DV PDNLQJ WR WKH ZRUNHU DQG WKH ZRUNHU LV

WUHDWHGDVUHFHLYLQJ D SD\PHQWZKLFKLVWREHWUHDWHGDVHDUQLQJV

IURPDQHPSOR\PHQW qWKH GHHPHGHPSOR\PHQWSD\PHQWr

7KHGHHPHGHPSOR\PHQWSD\PHQWLVWUHDWHGDVPDGHDWWKHWLPHWKH

SD\PHQWRUEHQHILWPHQWLRQHGLQVXEVHFWLRQ E LVUHFHLYHG

,QWKLV&KDSWHUu

qWKHZRUNHUrKDVWKHPHDQLQJJLYHQE\VXEVHFWLRQ

qWKHUHOHYDQWVHUYLFHVrPHDQVWKHVHUYLFHVPHQWLRQHGLQWKDW

VXEVHFWLRQ DQG

qWKHFOLHQWrPHDQVWKHSHUVRQWRZKRPWKHUHOHYDQWVHUYLFHVDUH

SURYLGHG

6HFWLRQ (VXSSOHPHQWVWKLVVHFWLRQ

' &DOFXODWLRQRIGHHPHGHPSOR\PHQWSD\PHQW

7KH DPRXQW RI WKH GHHPHG HPSOR\PHQW SD\PHQW LV WKH DPRXQW

UHVXOWLQJIURPWKHIROORZLQJVWHSVu

6WHS

)LQG DSSO\LQJVHFWLRQ ( WKHDPRXQWRIWKHSD\PHQWRUEHQHILW

PHQWLRQHGLQVHFWLRQ & E

6WHS

RAFT LEGISLATION

Tackling Managed Service Companies

Page 47

0DQDJHGVHUYLFHFRPSDQLHV

6FKHGXOHu 0DQDJHGVHUYLFHFRPSDQLHV

3DUW u$PHQGPHQWVRI,7(3$

'HGXFW DSSO\LQJ &KDSWHUV WR RI 3DUW WKH DPRXQW RI DQ\

H[SHQVHVPHWE\WKHZRUNHUWKDWZRXOGKDYHEHHQGHGXFWLEOHIURP

WKHWD[DEOHHDUQLQJVIURPWKHHPSOR\PHQWLIu

D WKHZRUNHUKDGEHHQHPSOR\HGE\WKHFOLHQWWRSURYLGHWKH

UHOHYDQWVHUYLFHV DQG

E WKH H[SHQVHV KDG EHHQ PHW E\ WKH ZRUNHU RXW RI WKRVH

HDUQLQJV

,IWKHUHVXOWDWWKLVSRLQWLVQLORUDQHJDWLYHDPRXQW WKHUHLVQR

GHHPHG HPSOR\PHQWSD\PHQW

6WHS

$VVXPH WKDWWKHUHVXOW RIVWHS UHSUHVHQWVDQDPRXQWWRJHWKHUZLWK

HPSOR\HUpVQDWLRQDOLQVXUDQFHFRQWULEXWLRQVRQLW DQGGHGXFWZKDW

RQWKDWDVVXPSWLRQ ZRXOGEHWKHDPRXQWRIWKRVHFRQWULEXWLRQV

7KHUHVXOWLVWKHGHHPHGHPSOR\PHQWSD\PHQW

,Q VWHS RI VXEVHFWLRQ WKH UHIHUHQFH WR H[SHQVHV PHW E\ WKH

ZRUNHULQFOXGHV ZKHUHWKH06&LVDSDUWQHUVKLSDQGWKHZRUNHULVD

PHPEHURIWKHSDUWQHUVKLS H[SHQVHVPHWE\WKHZRUNHUIRUDQGRQ

EHKDOIRIWKHSDUWQHUVKLS

,Q VWHS RI VXEVHFWLRQ WKH H[SHQVHV GHGXFWLEOH LQFOXGH WKH

DPRXQWRIDQ\PLOHDJHDOORZDQFHUHOLHIZKLFKWKHZRUNHUZRXOG

KDYHEHHQHQWLWOHGWRLQUHVSHFWRIWKHXVHRIDYHKLFOHIDOOLQJZLWKLQ

VXEVHFWLRQ LIu

D WKHZRUNHUKDGEHHQHPSOR\HGE\WKHFOLHQWWRSURYLGHWKH

UHOHYDQWVHUYLFHV DQG

E WKH YHKLFOH KDG QRW EHHQ D FRPSDQ\ YHKLFOH ZLWKLQ WKH

PHDQLQJRI&KDSWHU RI3DUW

$YHKLFOHIDOOVZLWKLQ WKLVVXEVHFWLRQLIu

D LWLVSURYLGHGE\WKH06&IRUWKHZRUNHU RU

E ZKHUHWKH06&LVDSDUWQHUVKLSDQGWKHZRUNHULVDPHPEHU

RI WKH SDUWQHUVKLS LW LV SURYLGHG E\ WKH ZRUNHU IRU WKH

SXUSRVHVRIWKHEXVLQHVVRIWKHSDUWQHUVKLS

)RUWKHSXUSRVHVRIVXEVHFWLRQ DQ\ QHFHVVDU\DSSRUWLRQPHQWRI

SD\PHQWVRUEHQHILWVWKDWDUHUHIHUDEOHSDUWO\WRWKHSURYLVLRQRIWKH

UHOHYDQWVHUYLFHVDQGSDUWO\WRRWKHUPDWWHUVLVWREHPDGHRQDMXVW

DQGUHDVRQDEOHEDVLV

( 6HFWLRQV & DQG ' DSSOLFDWLRQRIUXOHVUHODWLQJWRHDUQLQJVIURP

HPSOR\PHQW

7KHIROORZLQJSURYLVLRQVDSSO\IRUWKHSXUSRVHVRIVHFWLRQV &DQG

$ qSD\PHQW RU EHQHILWr PHDQV DQ\WKLQJ WKDW LI UHFHLYHG E\ DQ

HPSOR\HHIRUSHUIRUPLQJWKHGXWLHVRIDQHPSOR\PHQW ZRXOGEH

HDUQLQJVIURPWKHHPSOR\PHQW

7KHDPRXQWRIDSD\PHQWRUEHQHILWLVWDNHQWREHu

D LQWKHFDVHRIDSD\PHQWRUFDVKEHQHILW WKHDPRXQWUHFHLYHG

DQG

E LQWKHFDVHRIDQRQ FDVKEHQHILW WKHFDVKHTXLYDOHQWRIWKH

EHQHILW

RAFT LEGISLATION

Tackling Managed Service Companies

Page 48

0DQDJHGVHUYLFH FRPSDQLHV

6FKHGXOHu0DQDJHGVHUYLFHFRPSDQLHV

3DUW u$PHQGPHQWVRI,7(3$

7KHFDVKHTXLYDOHQWRIDQRQ FDVKEHQHILWLVWDNHQWREHu

D WKH DPRXQW WKDW ZRXOG EH HDUQLQJV LI WKH EHQHILW ZHUH

HDUQLQJVIURPDQHPSOR\PHQW RU

E LQWKHFDVHRIOLYLQJDFFRPPRGDWLRQ ZKLFKHYHULVWKHJUHDWHU

RI WKDW DPRXQW DQG WKH FDVK HTXLYDOHQW GHWHUPLQHG LQ

DFFRUGDQFHZLWKVHFWLRQ

$SD\PHQWRUEHQHILWLVWUHDWHGDVUHFHLYHGu

D LQWKHFDVHRIDSD\PHQWRUFDVKEHQHILW ZKHQSD\PHQWLV

PDGHRIRURQDFFRXQWRI WKHSD\PHQWRUEHQHILW

E LQWKHFDVHRIDQRQ FDVKEHQHILW WKDWLVFDOFXODWHGE\UHIHUHQFH

WRDSHULRGZLWKLQDWD[\HDU DWWKHHQGRIWKDWSHULRG

F LQ WKH FDVH RI D QRQ FDVKEHQHILW WKDW LV QRW VR FDOFXODWHG

ZKHQLWZRXOGKDYHEHHQWUHDWHGDVUHFHLYHGIRUWKHSXUSRVHV

RI&KDSWHU RU RIWKLV3DUW VHHVHFWLRQ RU LIu

L WKHZRUNHUKDGEHHQDQHPSOR\HH DQG

LL WKH EHQHILW KDG EHHQ SURYLGHG E\ UHDVRQ RI WKH

HPSOR\PHQW

) $SSOLFDWLRQRI,QFRPH7D[$FWVLQUHODWLRQWRGHHPHGHPSOR\PHQW

7KH,QFRPH7D[$FWV LQSDUWLFXODU WKH3$<(SURYLVLRQV DSSO\LQ

UHODWLRQWRWKHGHHPHGHPSOR\PHQWSD\PHQWDVIROORZV

7KH\DSSO\DVLIu

D WKH ZRUNHU ZHUH HPSOR\HG E\ WKH 06& WR SURYLGH WKH

UHOHYDQWVHUYLFHV DQG

E WKHGHHPHGHPSOR\PHQWSD\PHQWZHUHDSD\PHQWE\WKH

06&RIHDUQLQJVIURPWKDWHPSOR\PHQW

EXWWKLVLVVXEMHFWWRVXEVHFWLRQ

1RGHGXFWLRQXQGHU3DUW GHGXFWLRQVDOORZHGIURPHPSOR\PHQW

LQFRPH RU VHFWLRQ PLOHDJHDOORZDQFHUHOLHI PD\EHPDGHIURP

WKHGHHPHGHPSOR\PHQWSD\PHQW

7KH ZRUNHU LV QRW FKDUJHDEOH WR WD[ LQ UHVSHFW RI WKH GHHPHG

HPSOR\PHQW SD\PHQW LI RU WR WKH H[WHQW WKDW E\ UHDVRQ RI DQ\

FRPELQDWLRQRIWKHIDFWRUVPHQWLRQHGLQVXEVHFWLRQ WKHZRUNHU

ZRXOGQRWEHFKDUJHDEOHWRWD[LIu

D WKH ZRUNHU ZHUH HPSOR\HG E\ WKH FOLHQW WR SHUIRUP WKH

UHOHYDQWVHUYLFHV DQG

E WKHGHHPHGHPSOR\PHQWSD\PHQWZHUHDSD\PHQWE\WKH

FOLHQWRI HDUQLQJVIURPWKDWHPSOR\PHQW

7KHIDFWRUVDUHu

D WKHZRUNHUEHLQJUHVLGHQW RUGLQDULO\UHVLGHQWRUGRPLFLOHG

RXWVLGHWKH8QLWHG.LQJGRP

E WKHFOLHQWEHLQJUHVLGHQWRURUGLQDULO\UHVLGHQWRXWVLGHWKH

8QLWHG.LQJGRP DQG

F WKH UHOHYDQW VHUYLFHV EHLQJ SURYLGHG RXWVLGH WKH 8QLWHG

.LQJGRP

:KHUHWKH06&LVDSDUWQHUVKLSDQG WKHZRUNHULVD PHPEHURIWKH

SDUWQHUVKLS WKHGHHPHGHPSOR\PHQWSD\PHQWLVWUHDWHGDVUHFHLYHG

RAFT LEGISLATION

Tackling Managed Service Companies

Page 49

0DQDJHGVHUYLFHFRPSDQLHV

6FKHGXOHu 0DQDJHGVHUYLFHFRPSDQLHV

3DUW u$PHQGPHQWVRI,7(3$

E\WKHZRUNHULQWKHZRUNHUpVSHUVRQDOFDSDFLW\DQGQRWDVLQFRPHRI

WKHSDUWQHUVKLS

:KHUHu

D WKHZRUNHULVUHVLGHQWLQWKH8QLWHG.LQJGRP DQG

E WKHUHOHYDQWVHUYLFHVDUHSURYLGHGLQWKH8QLWHG.LQJGRP

WKH 06& LV WUHDWHG DV KDYLQJ D SODFH RI EXVLQHVV LQ WKH 8QLWHG

.LQJGRP ZKHWKHURUQRWLWLQIDFWGRHVVR

6XSSOHPHQWDU\SURYLVLRQV

* 5HOLHILQFDVHRIGLVWULEXWLRQVE\PDQDJHGVHUYLFHFRPSDQ\

$FODLPIRUUHOLHIPD\EHPDGHXQGHUWKLV VHFWLRQZKHUHWKH06&u

D LVDERG\FRUSRUDWH

E LVWUHDWHGDVPDNLQJDGHHPHGHPSOR\PHQWSD\PHQW LQDQ\

WD[\HDU DQG

F HLWKHULQWKDWWD[\HDU ZKHWKHUEHIRUHRUDIWHUWKDWSD\PHQW

LV WUHDWHG DV PDGH RU LQ D VXEVHTXHQW WD[ \HDU PDNHV D

GLVWULEXWLRQ DqUHOHYDQWGLVWULEXWLRQr

$FODLPIRUUHOLHIXQGHUWKLVVHFWLRQPXVWEHPDGHu

D E\WKH06&E\QRWLFHWRDQ RIILFHURI5HYHQXHDQG &XVWRPV

DQG

E ZLWKLQ \HDUVDIWHU VW -DQXDU\IROORZLQJWKHWD[\HDULQ

ZKLFKWKHGLVWULEXWLRQLVPDGH

,I RQ D FODLP EHLQJ PDGH DQ RIILFHU RI 5HYHQXH DQG &XVWRPV LV

VDWLVILHGWKDWUHOLHIVKRXOGEHJLYHQLQRUGHUWRDYRLGDGRXEOHFKDUJH

WRWD[ WKHRIILFHUPXVWGLUHFWWKHJLYLQJRIVXFKUHOLHIE\ ZD\RI

DPHQGLQJ DQ\ DVVHVVPHQW E\ GLVFKDUJH RU UHSD\PHQW RI WD[ RU

RWKHUZLVH DVDSSHDUVWRWKHRIILFHUDSSURSULDWH

5HOLHI XQGHU WKLV VHFWLRQ LV JLYHQ E\ VHWWLQJ WKH DPRXQW RI WKH

GHHPHGHPSOR\PHQWSD\PHQWDJDLQVWWKHUHOHYDQWGLVWULEXWLRQVRDV

WRWKHUHGXFHWKHGLVWULEXWLRQ

,Q WKH FDVH RI PRUH WKDQ RQH UHOHYDQW GLVWULEXWLRQ DQ RIILFHU RI

5HYHQXHDQG&XVWRPVPXVWH[HUFLVHWKHSRZHUFRQIHUUHGE\WKLV

VHFWLRQ VR DV WR VHFXUH WKDW VR IDU DV SUDFWLFDEOH UHOLHI LV JLYHQ E\

VHWWLQJWKHDPRXQWRIDGHHPHGHPSOR\PHQWSD\PHQWu

D DJDLQVW UHOHYDQW GLVWULEXWLRQV RI WKH VDPH WD[ \HDU EHIRUH

WKRVHRIRWKHU\HDUV

E DJDLQVWUHOHYDQWGLVWULEXWLRQVUHFHLYHGE\WKHZRUNHUEHIRUH

WKRVH UHFHLYHGE\ DQRWKHUSHUVRQ DQG

F DJDLQVWUHOHYDQWGLVWULEXWLRQVRIHDUOLHU\HDUVEHIRUHWKRVHRI

ODWHU\HDUV

:KHUHWKHDPRXQWRI D UHOHYDQW GLVWULEXWLRQLVUHGXFHGXQGHUWKLV

VHFWLRQ WKH DPRXQW RI DQ\ DVVRFLDWHG WD[ FUHGLW LV UHGXFHG

DFFRUGLQJO\

+ 0HDQLQJRIqDVVRFLDWHr

,QWKLV&KDSWHUqDVVRFLDWHru

RAFT LEGISLATION

Tackling Managed Service Companies

Page 50

0DQDJHGVHUYLFH FRPSDQLHV

6FKHGXOHu0DQDJHGVHUYLFHFRPSDQLHV

3DUW u$PHQGPHQWVRI,7(3$

D LQUHODWLRQWRDQLQGLYLGXDO KDVWKHPHDQLQJJLYHQE\VHFWLRQ

DQG RI,&7$

E LQUHODWLRQWRDFRPSDQ\ PHDQVDSHUVRQFRQQHFWHGZLWKWKH

FRPSDQ\ DQG

F LQUHODWLRQWRDSDUWQHUVKLS PHDQVDQ\DVVRFLDWHRIDPHPEHU

RIWKHSDUWQHUVKLS

%XWLIu

D D PDQDJHGVHUYLFHFRPSDQ\ qWKH06&r LVDSDUWQHUVKLS

DQG

E DSHUVRQLVDQDVVRFLDWHRIDQRWKHUSHUVRQE\YLUWXHRQO\RI

EHLQJDPHPEHURIWKHSDUWQHUVKLS

WKHSHUVRQLVWREHWUHDWHG IRUWKHSXUSRVHVRIWKLV&KDSWHUDVLW

DSSOLHVLQUHODWLRQWRWKH06& DVLIKHZHUHQRWDQDVVRFLDWHRIWKDW

RWKHUSHUVRQ

,QWHUSUHWDWLRQ

,QWKLV&KDSWHUu

qDVVRFLDWHrKDVWKHPHDQLQJJLYHQE\VHFWLRQ +

qEXVLQHVVrPHDQVDQ\WUDGH SURIHVVLRQRUYRFDWLRQ

qWKHFOLHQWrKDVWKHPHDQLQJ JLYHQE\VHFWLRQ &

qHPSOR\HUpV QDWLRQDO LQVXUDQFH FRQWULEXWLRQVr PHDQV

VHFRQGDU\ &ODVV RU &ODVV $ QDWLRQDO LQVXUDQFH

FRQWULEXWLRQV

qQDWLRQDOLQVXUDQFHFRQWULEXWLRQVrPHDQV FRQWULEXWLRQVXQGHU

3DUW RI66&%$ RU3DUW RI66&% 1, $

qPDQDJHGVHUYLFH FRPSDQ\rKDVWKHPHDQLQJJLYHQE\VHFWLRQ

q3$<(SURYLVLRQVrPHDQVWKHSURYLVLRQVRI3DUW RU3$<(

UHJXODWLRQV

qWKHUHOHYDQWVHUYLFHVrKDVWKHPHDQLQJJLYHQE\VHFWLRQ &

DQG

qWKHZRUNHUrKDVWKHPHDQLQJJLYHQE\VHFWLRQ &

,Q 3DUW RI 6FKHGXOH LQGH[ RI GHILQHG H[SUHVVLRQV LQVHUW DW WKH

DSSURSULDWHSODFHVu

qDVVRFLDWH LQ&KDSWHU RI3DUW

VHFWLRQ +r

qEXVLQHVV LQ&KDSWHU RI3DUW

VHFWLRQ ,r

qWKHFOLHQW LQ&KDSWHU RI3DUW

VHFWLRQ & r

qHPSOR\HUpV QDWLRQDO LQVXUDQFH

FRQWULEXWLRQV LQ &KDSWHU RI

3DUW

VHFWLRQ ,r

qQDWLRQDO LQVXUDQFH FRQWULEXWLRQV

LQ&KDSWHU RI3DUW

VHFWLRQ ,r

qPDQDJHG VHUYLFH FRPSDQ\ LQ

&KDSWHU RI 3DUW

VHFWLRQ %r

RAFT LEGISLATION

Tackling Managed Service Companies

Page 51

0DQDJHGVHUYLFHFRPSDQLHV

6FKHGXOHu 0DQDJHGVHUYLFHFRPSDQLHV

3DUW u2WKHUDPHQGPHQWV

$57

7+(5 $0(1'0(176

,Q3DUW RI,772,$ WUDGLQJLQFRPH LQ&KDSWHU WUDGHSURILWV RWKHU

VSHFLILFWUDGHV DIWHUVHFWLRQ LQVHUWu

0DQDJHGVHUYLFHFRPSDQLHV

$ &DOFXODWLRQRISURILWVRIILUPVZKLFK DUHPDQDJHGVHUYLFHFRPSDQLHV

7KLVVHFWLRQDSSOLHVIRUWKHSXUSRVHRIFDOFXODWLQJWKHSURILWVRID

WUDGH SURIHVVLRQ RU YRFDWLRQ FDUULHG RQ E\ D PDQDJHG VHUYLFH

FRPSDQ\ qWKH 06&r ZKLFK LQ FRQQHFWLRQ ZLWK WKH WUDGH

SURIHVVLRQRUYRFDWLRQ SURYLGHV GLUHFWO\RULQGLUHFWO\ WKHVHUYLFHV

RIDQLQGLYLGXDO qWKHZRUNHUr WRDQRWKHUSHUVRQ

$GHGXFWLRQLVDOORZHGIRUu

D WKHDPRXQWRIDQ\GHHPHGHPSOR\PHQWSD\PHQWWUHDWHGDV

PDGHE\WKH06&WRWKHZRUNHULQUHVSHFWRIWKHVHUYLFHV DQG

E WKH DPRXQW RI DQ\ HPSOR\HUpV QDWLRQDO LQVXUDQFH

FRQWULEXWLRQVSDLGE\WKH 06&LQUHVSHFWRIDQ\VXFKGHHPHG

HPSOR\PHQWSD\PHQW

7KH GHGXFWLRQ XQGHU VXEVHFWLRQ LV DOORZHG IRU WKH SHULRG RI

DFFRXQWLQZKLFKWKHGHHPHGHPSOR\PHQWSD\PHQWLVWUHDWHGDV

PDGH

7KHDPRXQWRIWKHGHGXFWLRQDOORZHGXQGHUVXEVHFWLRQ LVOLPLWHG

WRWKHDPRXQWWKDWUHGXFHVWKHSURILWVRIWKHILUPIRUWKHWD[\HDUWR

QLO

7KH GHGXFWLRQV OLVWHG LQ VXEVHFWLRQ DUH WKH RQO\ GHGXFWLRQV

DOORZHGIRUH[SHQVHVLQFXUUHGLQUHVSHFWRIDQ\SD\PHQWVRUEHQHILWV

UHFHLYHG IURP DQ\ SHUVRQ E\ WKH ZRUNHU RU DQ DVVRFLDWH RI WKH

ZRUNHULQUHVSHFWRIWKHVHUYLFHV

7KHGHGXFWLRQVDUHu

D WKHGHGXFWLRQXQGHUVXEVHFWLRQ PDGHLQDFFRUGDQFHZLWK

VXEVHFWLRQV DQG

E WKHDPRXQWRIDQ\HPSOR\PHQWLQFRPHSDLGE\WKH06&WR

WKHZRUNHULQUHVSHFWRIWKHVHUYLFHV

F WKH DPRXQW RI DQ\ HPSOR\HUpV QDWLRQDO LQVXUDQFH

FRQWULEXWLRQVSDLGE\WKH06&LQUHVSHFWRIDQ\HPSOR\PHQW

LQFRPHSDLGDVPHQWLRQHGLQSDUDJUDSK E DQG

q3$<(SURYLVLRQV LQ&KDSWHU RI

3DUW

VHFWLRQ ,r

qWKHUHOHYDQWVHUYLFHV LQ&KDSWHU

RI3DUW

VHFWLRQ & r

qWKHZRUNHU LQ&KDSWHU RI3DUW

VHFWLRQ & r

RAFT LEGISLATION

Tackling Managed Service Companies

Page 52

0DQDJHGVHUYLFH FRPSDQLHV

6FKHGXOHu0DQDJHGVHUYLFHFRPSDQLHV

3DUW u2WKHUDPHQGPHQWV

G WKHDPRXQWRIDQ\ H[SHQVHVLQUHVSHFWRIWKHVHUYLFHVWKDW DUH

PHWE\WKHZRUNHU DQGUHLPEXUVHGE\WKH06& DQGDUH

GHGXFWLEOHXQGHUVWHS RIVHFWLRQ ' RI,7(3$

,QWKLVVHFWLRQu

D qDVVRFLDWHr qGHHPHG HPSOR\PHQW SD\PHQWr qHPSOR\HUpV

QDWLRQDO LQVXUDQFH FRQWULEXWLRQVr DQG qPDQDJHG VHUYLFH

FRPSDQ\rKDYHWKHVDPH PHDQLQJDVLQ&KDSWHU RI3DUW RI

,7(3$

E qSD\PHQWRUEHQHILWr DQGqUHFHLSWrRIDSD\PHQWRUEHQHILW

DUHWREHLQWHUSUHWHGLQDFFRUGDQFHZLWKVHFWLRQ (RIWKDW

$FW r

$57

$/&8/$7,21 2) 352),76 )25 &25325$7,21 7$; 385326(6

7KLVSDUDJUDSKDSSOLHVIRUWKH SXUSRVHRIFDOFXODWLQJIRUFRUSRUDWLRQWD[

SXUSRVHVWKHSURILWVRIDEXVLQHVVFDUULHGRQE\DPDQDJHGVHUYLFHFRPSDQ\

qWKH06&r ZKLFK LQFRQQHFWLRQZLWKWKHEXVLQHVV SURYLGHV GLUHFWO\ RU

LQGLUHFWO\ WKHVHUYLFHVRIDQLQGLYLGXDO qWKHZRUNHUr WRDQRWKHUSHUVRQ

$GHGXFWLRQLVDOORZHGIRUu

D WKHDPRXQWRIDQ\GHHPHGHPSOR\PHQWSD\PHQWWUHDWHG DVPDGHE\

WKH06&WRWKHZRUNHULQUHVSHFWRIWKHVHUYLFHV DQG

E WKHDPRXQWRIDQ\HPSOR\HUpVQDWLRQDOLQVXUDQFHFRQWULEXWLRQVSDLG

E\WKH06&LQUHVSHFWRIDQ\VXFKGHHPHGHPSOR\PHQWSD\PHQW

7KHGHGXFWLRQXQGHUVXE SDUDJUDSK LVDOORZHGIRUWKHSHULRGRIDFFRXQW

LQZKLFKWKHGHHPHGHPSOR\PHQWSD\PHQWLVWUHDWHGDVPDGH

,IWKH06&LVD SDUWQHUVKLS WKHDPRXQW RIWKHGHGXFWLRQDOORZHGXQGHUVXE

SDUDJUDSK LV OLPLWHG WR WKH DPRXQW WKDW UHGXFHV WKH SURILWV RI WKH

SDUWQHUVKLSIRUWKHSHULRGRIDFFRXQWWRQLO

7KHGHGXFWLRQVOLVWHGLQ VXE SDUDJUDSK DUHWKHRQO\GHGXFWLRQVDOORZHG

IRUH[SHQVHVLQFXUUHGLQUHVSHFWRIDQ\SD\PHQWVRUEHQHILWVUHFHLYHG IURP

DQ\SHUVRQ E\WKHZRUNHURUDQDVVRFLDWHRIWKHZRUNHULQUHVSHFWRIWKH

VHUYLFHV

7KHGHGXFWLRQVDUHu

D WKHGHGXFWLRQXQGHUVXE SDUDJUDSK PDGHLQDFFRUGDQFHZLWK

VXE SDUDJUDSKV DQG

E WKH DPRXQW RI DQ\ HPSOR\PHQW LQFRPH SDLG E\ WKH 06& WR WKH

ZRUNHULQUHVSHFWRIWKHVHUYLFHV

F WKHDPRXQWRIDQ\HPSOR\HUpVQDWLRQDOLQVXUDQFHFRQWULEXWLRQVSDLG

E\WKH06&LQUHVSHFWRIDQ\HPSOR\PHQWLQFRPHSDLGDVPHQWLRQHG

LQSDUDJUDSK E DQG

G WKHDPRXQWRIDQ\H[SHQVHVLQUHVSHFWRIWKHVHUYLFHVWKDWDUHPHWE\

WKHZRUNHU DQGUHLPEXUVHGE\WKH06& DQGDUHGHGXFWLEOHXQGHU

VWHS RIVHFWLRQ ' RI,7(3$

,QWKLVSDUDJUDSKu

D qDVVRFLDWHr qEXVLQHVVr

qGHHPHG HPSOR\PHQW SD\PHQWr

qHPSOR\HUpV QDWLRQDO LQVXUDQFH FRQWULEXWLRQVr DQG qPDQDJHG

RAFT LEGISLATION

Tackling Managed Service Companies

Page 53

0DQDJHGVHUYLFHFRPSDQLHV

6FKHGXOHu 0DQDJHGVHUYLFHFRPSDQLHV

3DUW u&DOFXODWLRQRISURILWV IRU FRUSRUDWLRQWD[SXUSRVHV

VHUYLFHFRPSDQ\rKDYHWKHVDPHPHDQLQJDVLQ&KDSWHU RI3DUW RI

,7(3$

E qSD\PHQWRUEHQHILWr DQGqUHFHLSWrRIDSD\PHQWRUEHQHILW DUHWREH

LQWHUSUHWHGLQDFFRUGDQFHZLWK VHFWLRQ (RIWKDW$FW

RAFT LEGISLATION

Tackling Managed Service Companies

Page 54

Page 55

Tackling Managed Service Companies

The table below explains the main clauses relating to the tax charge on Managed Service Company (MSC)

workers. The legislation is set out in the left hand column with the explanation on the right.

This commentary on the draft clauses is a guide to the Government’s intention as to how the legislation

would operate if enacted in this form.

61C Worker treated as receiving earnings from employment

Draft legislation

Explanation

61C(1) This section applies if-

This section sets out the circumstances in which an individual worker

operating through an MSC is treated as having received earnings from

an employment.

Subsection (1) identifies 3 criteria that determine when a worker is

treated as receiving earnings. All three criteria must be satisfied for a

worker to be treated as receiving earnings from employment.

(a) the services of an individual ( “the worker”)

are provided (directly or indirectly) by a

managed service company (“the MSC” ),

The first criterion is that it is an MSC that provides the services of an

individual worker to a party who wishes to purchase the services (a

client). Whether the services of the worker are provided directly or

indirectly by the MSC, the criterion is still met.

(b) the worker, or an associate of the worker,

receives (from any person) a payment or

benefit which can reasonably be taken to

represent remuneration for the services, and

The second criterion is that the worker who has provided their

services to the client via a MSC receives something in return for those

services by way of a payment or some other benefit. The criterion is

met:

even if the worker receives the payment or benefit from some person

other than the MSC;

even if the payment or benefit is received by an associate of the

worker (e.g. their spouse);

if it is reasonable to take the payment or benefit as being in return for

the services provided, even if it is not described as such.

income received by the worker directly from

the MSC

The third criterion is that the payment or benefit received by the

worker is not paid by the MSC as wages or salary and already subject

to Pay As You Earn (PAYE) and national insurance contributions

(NICs).

(2) The MSC is treated as making to the

worker, and the worker is treated as receiving,

a payment which is to be treated as earnings

from an employment (“the deemed

employment payment”).

Subsection (2) provides that where a worker receives a payment

which meets the criteria in subsection (1), irrespective of whether the

payment is actually made by the MSC, the MSC is treated as making a

payment to the worker of earnings from an employment, from which

PAYE and NICs must be deducted. The worker is also treated as

receiving a payment of earnings. The payment is termed “the deemed

employment payment”.

XPLANATION OF DRAFT CLAUSES ON

THE TAX CHARGE

Page 56

XPLANATION OF DRAFT CLAUSES ON THE TAX CHARGE

Tackling Managed Service Companies

(3) The deemed employment payment is

treated as made at the time the payment or

benefit mentioned in subsection (1)(b) is

received.

This subsection provides that the date on which the worker received

the payment in respect of their services to the client is the date on

which the deemed employment payment is treated as made, and

therefore the date on which the MSC’s obligation to deduct PAYE and

NICs arises.

(4) In this Chapter-

“the worker” has the meaning given by

subsection (1)

“the relevant services” means the services

mentioned in that subsection, and

“the client” means the person to whom the

relevant services are provided

This subsection defines three terms used in the new Chapter 9, Part 2,

Income Tax (Earnings and Pensions) Act 2003:

worker means an individual providing their services through a MSC to

a client, whether directly or indirectly;

relevant services mean the services provided by the worker to the

client through the MSC;

client means the party to whom the services of the worker are

provided- i.e. the end client, not an employment agency.

(5) Section 61E supplements this section

This subsection refers to section 61E which sets out various rules

relating to payments and benefits: definitions, the calculation of a cash

equivalent, and the dates payments or benefits are treated as received.

Page 57

XPLANATION OF DRAFT CLAUSES ON THE TAX CHARGE

Tackling Managed Service Companies

61D Calculation of deemed employment payment

Draft legislation

Explanation

This section explains how the MSC works out the amount of the deemed

employment payment on which PAYE and NICs is due.

61D(1) The amount of the deemed

employment payment is the amount resulting

from the following steps -

Step 1

Find (applying section 61E) the amount of

the payment or benefit mentioned in section

61C(1)(b)

Step 2

Deduct (applying Chapters 1 to 5 of Part 5)

the amount of any expenses met by the

worker that would have been deductible

from the taxable earnings from the

employment if-

(a) the worker had been employed by the

client to provide the relevant services, and

(b) the expenses had been met by the

worker out of those earnings.

If the result at this point is nil or a negative

amount, there is no deemed employment

payment.

Step 3

Assume that the result of step 2 represents

an amount together with employer’s national

insurance contributions on it, and deduct

what (on that assumption) would be the

amount of those contributions. The result is

the deemed employment payment.

This subsection sets out a three step process to arrive at the sum to be

subjected to PAYE and NICs.

The MSC first takes the payment or benefit received by the worker

(whether or not it was paid by the MSC). Section 61E provides an

explanation of how a payment which is not cash is converted to a cash

equivalent for the purposes of calculating the deemed employment

payment.

The MSC deducts from the amount of the payment received by the

worker expenses that are allowable under the Income Taxes Acts.

However, the amount of allowable expenses is to be worked out, not on

the basis that the worker is employed by the MSC and that each

engagement with an end client represents a temporary workplace, but

rather:

as if the worker had been employed to provide their services by the

client, and

the worker had paid the expenses out of their taxable pay.

Because the expenses to be deducted are calculated on this basis, the

worker is not entitled to claim expenses for travel to the client’s

premises, nor to any associated accommodation or subsistence costs.

If allowable expenses (having regard to the above factors) equal or

exceed the payment or benefit received by the worker, there is no

deemed employment payment to be subject to PAYE and NICs.

The amount left after allowable expenses have been deducted from the

payment or benefit received by the worker represent two amounts:

1. the amount of earnings to be subject to PAYE and employee’s NICs;

and

2. employer’s NICs on those earnings

The MSC must calculate how much of the amount remaining after step 2

would represent the employer’s NICs due on a payment of the rest of

the amount to the worker. The employer’s NICs are deducted from the

result of step 2. The remaining amount on which PAYE and employee’s

NICs is to be deducted is the deemed employment payment.

Page 58

XPLANATION OF DRAFT CLAUSES ON THE TAX CHARGE

Tackling Managed Service Companies

(2) In step 2 of subsection (1), the reference

to expenses met by the worker includes,

where the MSC is a partnership and the

worker is a member of the partnership,

expenses met by the worker for and on

behalf of the partnership.

This subsection clarifies the expenses allowable when the MSC is a

partnership. Where the MSC is a partnership in which the worker is a

partner, allowable expenses met on behalf of the partnership can also be

deducted in arriving at the deemed employment payment.

(3) In step 2 of subsection (1), the expenses

deductible include the amount of any mileage

allowance relief which the worker would

have been entitled to in respect of a vehicle

falling within subsection(4) if-

(a) the worker had been employed by the

client to provide the relevant services, and

b) the vehicle had not been a company

vehicle (within the meaning of Chapter 2,

Part 4).

This subsection, together with subsection (4), clarifies what expenses can

be deducted by the MSC in calculating the deemed employment payment

in respect of mileage allowance relief. Mileage allowance relief is

deductible to the extent that the worker would have been entitled to it if:

the worker had been employed to provide their services by the client;

and

the vehicle in respect of which a mileage allowance was paid was not a

company vehicle made available to the worker by the client but not for

private use

(4) A vehicle falls within this subsection if-

(a) it is provided by the MSC for the worker,

(b) where the MSC is a partnership and the

worker is a member of the partnership, it is

provided by the worker for the purposes of

the business of the partnership.

This subsection sets out the type of vehicle for which a mileage allowance

referred to in subsection (3) would be allowable. The type of vehicle is:

one provided for the worker by the MSC; or

where the MSC is a partnership of which the worker is a member, one

provided by the worker for the purposes of the business of the MSC.

(5) For the purposes of subsection (1) any

necessary apportionment of payments or

benefits that are referable partly to the

provision of the relevant services and partly

to other matters is to be made on a just and

reasonable basis.

Payments or benefits received by a worker providing their services

through a MSC will, in the first instance, be considered to relate to the

provision of those services. However, where part of a payment or benefit

received by a worker cannot reasonably be considered to be in respect of

the services, but that part is not clearly identifiable, the payment or

benefit is to be split on a fair and reasonable basis between the amount in

respect of services provided and the amount received for other reasons.

Page 59

XPLANATION OF DRAFT CLAUSES ON THE TAX CHARGE

Tackling Managed Service Companies

Section 164A ITTOIA 2005 Calculation of profits of firms which are

managed service companies

Draft legislation

Explanation

This is a new section to be added to the Income Tax (Trading and

Other Income) Act 2005 (ITTOIA), after section 164, about the

deductions allowable in computing the profits of an MSC which is

not a body corporate for income tax purposes.

164A(1)

This section applies for the purpose of calculating

the profits of a trade, profession or vocation

carried on by a managed service company (“the

MSC”) which (in connection with the trade,

profession or vocation) provides, directly or

indirectly, the services of an individual (“the

worker “) to another person.

This subsection sets out that the section applies for calculating the

profits for tax purposes of MSCs providing the services of

individual workers to other persons.

(2) A deduction is allowed for-

(a) the amount of any deemed employment

payment treated as made by the MSC to the

worker in respect of the services, and

(b) the amount of any employer’s national

insurance contributions paid by the MSC in respect

of any such deemed employment payment.

This subsection sets out the allowable deductions in computing a

MSC’s profits in relation to deemed employment payments. The

allowable deductions are:

the amount of any deemed employment payment which the MSC is

treated as making to the worker for their services; and

the amount of employer’s NICs paid on any deemed employment

payment which the MSC is treated as making.

(3) The deduction under subsection (2) is allowed

for the period of account in which the deemed

employment payment is treated as made.

This subsection provides that the deduction for a deemed

employment payment and associated employer’s NICs is allowable

in the MSC’s accounting period in which the deemed employment

payment is treated as made (that is, when the worker received

payment in respect of their services).

(4) The amount of the deduction allowed under

subsection (2) is limited to the amount that

reduces the profits of the firm for the tax year to

nil

This subsection restricts the amount of the deduction for a deemed

employment payment and associated employer’s NICs to the

amount needed to reduce profits to nil – that is, such deductions

cannot create losses.

(5) The deductions listed in subsection (6) are the

only deductions allowed for expenses incurred in

respect of any payments or benefits received (from

any person) by the worker or an associate of the

worker in respect of the services

This subsection sets out that only the deductions listed in

subsection (6) may be made in respect of expenses relating to

payments (or benefits) received by workers (or their associates) in

respect of the provision of their services.

(6) The deductions are-

(a) the deductions under subsection (2) (made in

accordance with subsections (3) and (4),

Deductions are restricted to:

deemed employment payments and associated employer’s NICs,

subject to the restrictions regarding accounting periods and the

creation of losses;

Page 60

XPLANATION OF DRAFT CLAUSES ON THE TAX CHARGE

Tackling Managed Service Companies

(b) the amount of any employment income paid by

the MSC to the worker in respect of the services,

insurance contributions paid by the MSC in respect

of any employment income paid as mentioned in

paragraph (b) , and

(d) the amount of any expenses in respect of the

services that are met by the worker (and

reimbursed by the MSC) and are deductible under

step 2 of section 61D(1) of ITEPA 2003.

wages and salary subject to PAYE and employee’s NICs, paid to

workers by the MSC;

employer’s NICs due on the wages and salary subject to PAYE and

employee’s NICs paid to workers by the MSC; and

expenses reimbursed to the worker by the MSC that are allowable

in calculating the deemed employment payment (that is, calculated

as if the worker had been employed directly by the client).

(7) In this section-

(a) “associate”, “deemed employment payment”,

“employer’s national insurance contributions” and

“managed service company” have the same

meaning as in Chapter 9 of Part 2 of ITEPA 2003;

(b) “payment or benefit” (and “receipt” of a

payment or benefit) are to be interpreted in

accordance with section 61E of that Act.

This section defines certain terms by reference to the provisions of

Chapter 9 ITEPA 2003. Specifically:

associate, deemed employment payment, employer’s national

insurance contributions and MSC, all have the meanings set out in

Chapter 9 ITEPA;

payment or benefit and receipt of payment or benefit, take the

meaning set out in section 61E of Chapter 9, ITEPA.

Page 61

XPLANATION OF DRAFT CLAUSES ON THE TAX CHARGE

Tackling Managed Service Companies

Paragraph 7 Calculation of profits for corporation tax purposes

Draft legislation

Explanation

This paragraph applies the same provisions as in the draft S164A for the

purposes of calculating the profits of an MSC subject to corporation tax.

7(1)

This paragraph applies for the purposes of

calculating for corporation tax purposes the

profits of a business carried on by a managed

service company (“the MSC”) which (in

connection with the business ) provides,

directly or indirectly, the services of an

individual (“the worker “) to another person.

This sub-paragraph sets out that the paragraph applies for calculating the

profits for corporation tax purposes of MSCs providing the services of

individual workers to other persons.

(2) A deduction is allowed for-

(a) the amount of any deemed employment

payment treated as made by the MSC to the

worker in respect of the services, and

(b) the amount of any employer’s national

insurance contributions paid by the MSC in

respect of any such deemed employment

payment.

This sub-paragraph sets out the allowable deductions in computing a

MSC’s profits in relation to deemed employment payments. The

allowable deductions are:

the amount of any deemed employment payment which the MSC is

treated as making to the worker for their services; and

the amount of employer’s NICs paid on any deemed employment

payment which the MSC is treated as making.

(3) The deduction under sub- paragraph (2)

is allowed for the period of account in which

the deemed employment payment is treated

as made.

This sub-paragraph provides that the deduction for a deemed

employment payment and associated employer’s NICs is allowable in the

MSC’s accounting period in which the deemed employment payment is

treated as made (that is, when the worker received payment in respect

of their services).

(4) If the MSC is a partnership, the amount of

the deduction allowed under sub-paragraph

(2) is limited to the amount that reduces the

profits of the partnership for the period to

nil.

This sub-paragraph restricts the amount of the deduction for a deemed

employment payment and associated employer’s NICs to the amount

needed to reduce profits to nil – that is, such deductions cannot create

losses.

(5) The deductions listed in sub- paragraph

(6) are the only deductions allowed for

expenses incurred in respect of any

payments or benefits received (from any

person) by the worker or an associate of the

worker in respect of the services.

This sub-paragraph sets out that only the deductions listed in subsection

(6) may be made in respect of expenses relating to payments (or

benefits) received by workers (or their associates) in respect of the

provision of their services.

6) The deductions are-

(a) the deductions under sub- paragraph (2)

(made in accordance with sub-paragraphs (3)

and (4),

Deductions are restricted to:

deemed employment payments and associated employer’s NICs, subject

to the restrictions regarding accounting periods and the creation of

losses;

Page 62

XPLANATION OF DRAFT CLAUSES ON THE TAX CHARGE

Tackling Managed Service Companies

(b) the amount of any employment income

paid by the MSC to the worker in respect of

the services,

insurance contributions paid by the MSC in

respect of any employment income paid as

mentioned in paragraph (b) , and

(d) the amount of any expenses in respect of

the services that are met by the worker (and

reimbursed by the MSC) and are deductible

under step 2 of section 61D(1) of ITEPA

2003.

wages and salary subject to PAYE and employee’s NICs, paid to workers

by the MSC;

employer’s NICs due on the wages and salary subject to PAYE and

employee’s NICs paid to workers by the MSC; and

expenses reimbursed to the worker by the MSC that are allowable in

calculating the deemed employment payment (that is, calculated as if the

worker had been employed directly by the client).

(7) In this paragraph-

“associate”, “business” “deemed employment

payment”, “employer’s national insurance

contributions” and “managed service

company” have the same meaning as in

Chapter 9 of Part 2 of ITEPA 2003;

“payment or benefit” (and “receipt” of a

payment or benefit) are to be interpreted in

accordance with section 61E of that Act.

This paragraph defines certain terms by reference to the provisions of

Chapter 9 ITEPA. Specifically:

associate, deemed employment payment, employer’s national insurance

contributions and MSC, all have the meanings set out in Chapter 9

ITEPA;

Payment or benefit and receipt of payment or benefit, take the meaning

set out in section 61E of Chapter 9, ITEPA .

Page 63

Tackling Managed Service Companies

PURPOSE AND INTENDED EFFECT

Policy objective

D.1

The Government is taking action to prevent Managed Service Company

(MSC)

schemes being used to disguise employment income, so avoiding paying the

appropriate level of income tax and national insurance contributions (NICs).

D.2

Workers in MSCs are almost invariably not in business on their own account

and the underlying nature of the contracts in which they are involved is one of

employment. There are existing rules (the Intermediaries legislation

) to ensure that the

correct tax and NICs treatment is applied, but these rules are in the vast majority of

cases not being followed by MSCs. Enforcing these rules is resource-intensive because

of the nature of the legislative test and the growing number of workers in MSC schemes.

As a result the strong growth in MSC schemes constitutes a significant and increasing

risk to the Exchequer and those using MSC schemes are gaining an unfair competitive

advantage over compliant workers and businesses. In addition some workers are

entering MSC schemes without understanding that they may be giving up employment

rights. Ensuring employed levels of tax and NICs are paid by those in MSC schemes will

deter use of these schemes, protect the Exchequer and restore a level playing field for

compliant businesses.

Background

D.3

MSCs are intermediary companies that are used to provide the services of a

worker to an end client, usually via an agency.

D.4

The tax treatment of services provided through an intermediary is governed by

the Intermediaries legislation (also known as “IR35”). This looks at the nature of the

relationship between the worker in the intermediary and the end client and constructs a

“notional contract” between them. Where the contract has the characteristics of self-

employment – a contract for services - the normal tax rules apply. Where the contract is

one of employment – a contract of service - the legislation requires the intermediary

company broadly to pay employed levels of tax and NICs on payments to the worker.

Rationale for Government intervention

D.5

Workers in MSCs are almost invariably not in business on their own account

and the underlying nature of the contracts in which they are involved is one of

employment. HM Revenue and Customs (HMRC) has emphasised that service

companies, and particularly MSCs, need to consider and, where appropriate, apply the

Intermediaries legislation.

In 2003 HMRC set up two specialist compliance teams to

focus on these schemes.

See the glossary and Chapter 2 of the consultation document Tackling Managed Service Companies of for definitions of the terms

used in this partial RIA.

Chapter 8, Part 2, Income Tax (Earnings and Pensions) Act, 2003; Section 4A, Social Security Contributions and Benefits Act

1992; Social Security (Intermediaries) Regulations 2000, SI 2000/727.

See HMRC Tax Bulletins 60 (August 2002) and 74 (December 2004).

ARTIAL

EGULATORY

MPACT

SSESSMENT

Page 64

ARTIAL

EGULATORY

MPACT

SSESSMENT

Tackling Managed Service Companies

D.6

However despite focused compliance activity by HMRC, the Intermediaries

legislation is in the vast majority of cases not being applied by those running MSC

schemes. Enforcing these rules is difficult because of the number of workers involved in

MSC schemes, and the resource-intensive nature of the legislative test.

D.7

Even in the event of an investigation successfully demonstrating a Pay As You

Earn (PAYE) and NICs liability, MSC scheme providers have escaped PAYE and NICs

debts by winding up the company or simply ceasing to trade. As a result, because MSCs

generally have no assets, the debt cannot be enforced against the company and the tax

and NICs due cannot be collected.

D.8

MSC schemes often also take advantage of the tax relief available to employees

for the reimbursement of travel expenses and overnight subsistence. Employees are

able to claim travel and subsistence costs for home-to-work travel free of tax and NICs

when they are at temporary workplaces. MSC schemes make use of these rules on the

basis that each of the worker’s assignments represents a temporary workplace since the

worker is treated as having one overarching employment with the MSC. This approach

allows workers in MSCs – whose underlying contract is almost invariably one of

employment - a more favourable tax and NICs position than employed workers.

D.9

There is a degree of uncertainty attached to estimates in this area but HMRC

analysis suggests that the number of workers in MSCs has grown from around 65,000 in

2002-03 to at least 240,000 in 2005-06.

D.10

The Intermediaries legislation was never intended to deal with widespread non-

compliance on the scale seen with MSCs. In view of this and the strong growth in the

number of MSC schemes, the Government has decided that specific action against MSC

schemes is required.

Consultation

D.11

The consultation document Tackling Managed Service Companies sets out the

Government’s policy for tackling MSCs (Option 3). An effective definition of MSCs is key

to the approach and the Government is therefore consulting on the draft legislation to

ensure that MSCs are accurately targeted. The Government also invites comments on

the legislation related to the tax charge that will be applied. The relevant draft clauses

are included and explained in the consultation document. The Government will also

address the problem of MSCs escaping payment of tax and NICs that are due by

allowing the recovery of these debts from appropriate third parties. The Government

aims to publish this draft legislation for discussion by the end of January 2007 and

welcomes comments on this issue in the intervening period.

OPTIONS

Option 1: Do nothing

D.12

Taking no action would mean using the Intermediaries legislation to ensure that

the correct tax and NICs treatment is applied to MSCs where the underlying nature of

an engagement is that of employment. HMRC would continue to enforce this legislation

as at present.

Page 65

ARTIAL

EGULATORY

MPACT

SSESSMENT

Tackling Managed Service Companies

Option 2: Invest more resources in enforcing the

Intermediaries legislation

D.13

As described above, the tax treatment of services provided through an

intermediary company is governed by the Intermediaries legislation, but these rules are

in the vast majority of cases not being applied by those running MSCs schemes. One

response to this would be to invest more resources in enforcing this existing legislation.

This could involve more compliance activity, wider publicity and use of existing HMRC

powers to pursue the directors or officers for unpaid NICs.

Option 3: Define MSCs and tax those in them as

employees

D.14

This option would define MSCs and then apply a specific tax and NICs

treatment to them so that those in the schemes paid the same level of tax and NICs as

other employees. It would also remove access to more generous tax relief for travel and

subsistence costs incurred by MSC workers who claim that each engagement is a

separate employment.

D.15

In response to the debt collection problems experienced with MSCs this option

would include measures to allow the recovery of MSCs’ PAYE and NICs debts from an

appropriate third party where the MSC does not pay.

D.16

The effectiveness of this measure would be better monitored, and compliance

activity would be better targeted, through the use of improved information:

two existing questions on the annual employer’s end of year return (P35)

would be replaced with more specific questions for forms relating to 2007-08

and onwards; and

two questions would be added to the Income Tax Self Assessment return for

2007-08 and onwards.

COSTS AND BENEFITS

Option 1: do nothing

D.17

The only benefit of doing nothing would be that it would provide an opportunity

to continue to gather information to inform subsequent action. But HMRC’s extensive

compliance work in this area means that there is already a strong evidence base to

inform policy.

D.18

There is a degree of uncertainty attached to estimates in this area but HMRC

analysis suggests that the number of workers in MSCs has grown from around 65,000 in

2002-03 to at least 240,000 in 2005-06. The tax and NICs losses from MSC schemes are

therefore substantial and increasing. This is an unacceptable risk to the Exchequer.

D.19

The current significant losses of tax and NICs would increase, leaving compliant

workers and businesses to bear a disproportionate share of tax. More workers would

enter MSC schemes often without understanding that they may be giving up

employment rights.

D.20

There are also economic costs in that the unfair competitive pressures caused

by MSCs would persist and grow. At the moment MSCs prevent a level playing field for

Benefits

Costs

Page 66

ARTIAL

EGULATORY

MPACT

SSESSMENT

Tackling Managed Service Companies

businesses in the provision of both professional and personal services, in the supply of

agency workers and in the supply of labour in some sectors (see the competition

assessment at paragraphs D38-41 for more information).

Option 2: Invest more resources in enforcing the

Intermediaries legislation

D.21

It is preferable to make existing legislation work if possible as this allows a

quicker response than introducing new legislative measures and does not place new

compliance costs on business.

D.22

Increasing the compliance effort directed at MSCs would increase the number

of successful investigations under the Intermediaries legislation. But given strong

recent growth in MSC schemes, the labour-intensive nature of HMRC’s compliance

work in this area and the fact that even in the event of a successful investigation there

are problems collecting the debt (see paragraph D7), this option is unlikely to deter

non-compliance with the Intermediaries legislation. Use of HMRC powers to pursue

directors or officers for the unpaid NICs would still require a debt to be established

under the Intermediaries legislation (and in any case would not enable recovery of tax).

D.23

To achieve an appreciable impact this option would require substantially

increased HMRC compliance resources devoted to this area of work. This would mean

either additional resources or reprioritising activity to the detriment of other

compliance work. Given the enforcement problems associated with applying the

Intermediaries legislation to MSCs this would be a substantial opportunity cost since

compliance resources could be used in more cost-effective ways.

Option 3: Define MSCs and tax those in them as

employees

D.24

This measure would stem the loss of tax and NICs from disguised employment

through MSCs. There is a degree of uncertainty attached to estimates of revenue losses

from the failure of MSCs to comply with the Intermediaries legislation. However, the

number of workers operating through MSCs suggests that substantial amounts are

being lost to the Exchequer and that based on current trends, this will continue to grow.

Based on cautious assumptions, the estimated yield to the Exchequer of these measures

is £350 million in 2007-08, £450 million in 2008-09 and £250 million in 2009-10 (this is

higher in the earlier years as the reduction in corporation tax receipts from MSCs does

not occur until after the increase in PAYE and NICs receipts). The package will also

deter future use of MSC schemes, protecting the Exchequer against future losses.

D.25

There would be additional gains from reducing the competitive disadvantage

faced by those companies who are compliant with the Intermediaries legislation,

workers already in PAYE who work in sectors where others are not compliant but who

undertake the same activity for the same end clients, and compliant providers of

services to contractors – these are laid out in the Competition Assessment (paragraphs

D38-41).

D.26

The financial costs of increased tax and NICs would be borne by those who are

currently unfairly benefiting from paying incorrect levels of tax and NICs through MSC

schemes. As discussed in the consultation document Tackling Managed Service

Companies, the proceeds of the contrived tax arrangement can be shared in various

ways between scheme provider, worker, agency and end client.

Benefits

Costs

Benefits

Costs

Page 67

ARTIAL

EGULATORY

MPACT

SSESSMENT

Tackling Managed Service Companies

D.27

All MSC scheme providers would face the one-off compliance cost of assessing

the impact of the legislation. However this would be approximately equivalent to

checking that they were compliant with the Intermediaries legislation and would

consist of examining the legislation or guidance that HMRC issued, and comparing it

with the arrangements for each company within the scheme.

D.28

If a scheme provider were to continue to offer MSCs most would not face an

additional burden of having to operate PAYE as many scheme providers already operate

PAYE on behalf of the MSC on a portion of the workers’ remuneration. This is because

many MSC workers are technically employees of the MSC and so under legislation have

to be paid a salary at least equivalent to the National Minimum Wage.

D.29

While workers in MSCs are almost invariably not in business on their own

account, there may be a limited number of workers who are in business for themselves

and using MSCs as a corporate vehicle. These workers would face the one-off

compliance cost of moving into Personal Service Companies (PSCs) to avoid paying

employed levels of tax and NICs. However they should not generally face increased

costs as the ongoing administrative costs of employing an accountant are lower than

the typical fees paid to a scheme provider (see also the Small Firms Impact test,

paragraphs D36-37).

D.30

Although the Government’s aim is to target clearly the scope of the measure on

MSC schemes some PSCs might face the modest one-off compliance cost of assessing

the new measures in order to conclude that they do not apply.

D.31

The measures would be supported by two new information requirements. The

increased compliance costs of replacing two questions on the P35 with two new ones

would be minimal as the information they request would be similar to that requested by

the current two questions. It is estimated that the two new questions on the ITSA return

would in the first instance place modest compliance costs on individuals. It is

anticipated that for more than 95 per cent of those filing the return there would only be

a negligible increase in time taken. The information required to answer one of the two

questions would be readily available from that already collated to complete other

sections of the Return.

SECTORS AND GROUPS AFFECTED

D.32

There are estimated to be about 150 MSC scheme providers, of which ten

provide the vast majority of workers since they have tens of thousands of workers in

their schemes. There is then a handful of scheme providers which have between 10,000

and 15,000 workers in MSCs. Some of these offer umbrella companies

as well. About

half a dozen providers have 3,000-5,000 workers in their MSCs; these MSCs are

generally composites rather than MPSCs. Finally there is a long tail of providers who

have fewer than 3,000 workers in their schemes.

D.33

Estimates suggest that around 90 per cent of workers in MSC schemes find work

through an employment agency, the rest contracting directly with end clients. As a

result of these measures agencies may find increased numbers of workers wishing to

work as agency workers and hence agencies will have to operate PAYE to deduct tax and

In an Umbrella Company (also known as a management company) the worker routes a series of agency contracts through the

company. The worker is treated as having an ongoing employment with the company and is paid a salary to which PAYE and NICs

applies.

Page 68

ARTIAL

EGULATORY

MPACT