[Update – 31st March] On the 27th March, the Finance Bill 2014 was published. There is a seperate document that deals with salaried memebrs of LLPs and it is available here.
I am indebted to Sofie Persson for her contribution to this blog post, which has been most helpful.
Over recent years, HM Revenue & Customs (HMRC) have taken an increasing interest in the treatment of payments to self-employed persons who could otherwise be regarded as employees and therefore within the scope of the PAYE regulations. This is a very current issue for professional firms operating as limited liability partnerships (LLPs) facing new tax rules due to apply next month. These rules reaffirm HMRC’s intention to stop, what they see as a misuse of some LLP provisions, in treating members who are essentially salaries, as if they are self-employed.
Non-compliance with PAYE regulations can result in a series of penalties and impositions for the employer who fails to deduct PAYE and National Insurance Contributions (NIC) at source. You should therefore make sure that you are fully conversant with the differences between an employee and a self-employed person
The words “Employee”, “Employer” and “Self-Employed” have no exact meaning in law, and so it is difficult to be precise about a particular interpretation of a set of circumstances to determine whether a person is employed or self-employed. If an individual carrying out a service for a company is self-employed, the company does not have to apply the PAYE or NIC deduction rules. The difficulty is how to establish whether a person is employed or self-employed.
The following list may help clarify the situation but each set of circumstances is different and you should take appropriate professional advice to determine the actual position in your own case (references to “his” include “her”):
- Do they have to do the work themselves?
- Can they hire someone to do the work or engage helpers at their own expense?
- What control over the work does the “employer” impose: Can someone tell them at any time what to do, where to carry out the work or when and how to do it?
- Can they work a set amount of hours?
- Can someone move them from task to task?
- Are they paid by the hour, week, or month?
- Can they get overtime pay or bonus payment?
- Is there an obligation on the business to provide work and for the person to accept it (often called the “mutuality of obligation” factor)?
- Can the individual decide his own schedule and methods of work, and the place from which he works?
- Who provides the materials and equipment necessary for the individual to carry out his work?
- Does the person concerned operate a business bank account, use a business name and, if relevant, register for VAT?
- Does the individual have several clients or customers?
- Are invoices raised that indicate the individual is carrying out a proper business?
- How is payment made?
- Are there other people within the company performing similar tasks but who are treated as employees?
- Has the person become integrated into the organisation where others are employees and it would be difficult to distinguish one category of worker from another?
- Do they have to make good unsatisfactory work in their own time and at their own expense?
- Delegation – can the individual send a nominated replacement to perform his contractual duties (an important feature in determining self-employed status)?
- Is there an opportunity for the individual to profit from good management of the tasks to be undertaken?
- Do they agree to do a job for a fixed price regardless of how long the job may take?
Features which may point towards or away from employee status are:
|Whether the worker:||Towards employee status||Away from employee status|
|…provides services personally||Yes – required|
|…is subject to a sufficient level of control by the employer||Yes – required|
|…and the employer share mutuality of obligation||Yes – required|
– a regular wage or salary
– via profit sharing or the submission of invoices for set amounts of work done
|…assumes a degree of financial risk if work is not completed on schedule or to standard||Yes|
|…receives any performance-related pay, such as a bonus||Yes|
|…receives overtime pay||Yes|
|…provides their own workspace, tools and equipment||Yes|
|…is not tied to the employer, ie free to work for others (especially rival enterprises)||Yes|
|…works variable hours or variable days of the week (or works only for certain fixed periods)||Yes|
|…works on specific projects or not at all||Yes|
|…works in a trade whether there is a ‘traditional structure’ of employment||Yes|
|…has their attendance and hours of work monitored||Yes|
|…is subject to the company disciplinary procedure and other procedures and policies||Yes|
|…maintains indemnity insurance||Yes|
|…maintains employer’s liability insurance, where they employ staff||Yes|
|…receives paid holiday||Yes (although note this is a worker’s entitlement)|
|…receives sick pay||Yes|
|…receives other benefits (such as subsidised gym membership, medical expenses insurance)||Yes|
|…is ‘part and parcel’ of the employer eg:|
– participates in staff training
– participates in staff events eg Christmas parties
– has an employee (as opposed to a visitor or temporary ID) pass to the employer’s premises
|…is responsible for the payment of income tax and national insurance contributions||Yes|
|…can be dismissed||Yes|
|…has a long engagement, or series of engagements||Yes|
The Tax Implications
A self-employed person is responsible for paying his/her own Income Tax on the profit arising from the services offered. Such a person will not be included in an employer’s PAYE Scheme. They will be responsible for registering for VAT if the level of taxable supplies exceeds the necessary limits.
For guidance on employment status, HMRC Employment Status Manual is available on their website.
HMRC provides an Employment Status Indicator tool to help employers determine their workers’ employment status. This can be viewed at www.hmrc.gov.uk
New rules affecting “salaried” members of LLPs
HMRC has published a technical note on new rules due to come into effect on 6 April 2014, which affect limited liability partnerships (LLPs). Specific legislation exists to ensure that LLPs are treated as partnerships for tax purposes, rather than treated as companies.
Over the years, it has become evident that many LLPs have members who are engaged on terms that are similar to those of employees rather than traditional partners.
Legislation is being introduced in Finance Bill 2014 to ensure that LLP members who are, in effect, providing services on terms similar to employment are treated as “employees” for tax purposes. Associated changes to the NICs legislation are being made under the NICs Bill 2013.
Limited Liability Partnerships with ‘salaried’ members
New measures to combat alleged tax avoidance by limited liability partnerships (LLPs) come into force on 6 April 2014. The rules are intended to prevent the abuse of LLP status by payments to ‘disguised employees’. When applied, the increased NIC cost to the employee and the LLP will be considerable.
There will be a new test to determine when a member of an LLP is really a salaried member rather than a profit-sharing. LLPs will need to consider whether individual members fall within the conditions set out in these tests (see below). Meeting the tests means that:
- the individual member concerned will be treated for UK income tax purposes as an employee of the LLP and, therefore, liable to the PAYE rules and will pay NIC at the Class 1 rate; and
- the LLP, as the employer, will be liable to employer’s Class 1 NIC on remuneration paid.
As an employee, the salaried member (as an employee) will have to be included in the employee-related benefit in kind rules and the employment-related securities rules and Class 1A NIC will be payable by the LLP. Provisions have been introduced to allow the corresponding costs of ’employing’ salaried members to be deductible in the computation of the profits of an LLP for tax purposes.
An anti-avoidance provision is also going to be introduced so that any arrangement with a purpose of circumventing the rules will be disregarded.
The 3 Conditions
|Condition A, addresses ‘disguised salary’, and is dependent on the level of variable profit share. This will be assessed on 6 April 2014 or later when the individual becomes a member and is not reassessed again unless the member’s arrangement with the LLP changes.The test is that there is an agreement in place under which the individual performs services for the LLP in his/her capacity as a member and it is reasonable to expect that the amounts paid will be, at least substantially (that is 80% or more), ‘disguised salary’. This term refers to fixed payments or, where the payments are variable, to payments whose variance has no reference to, or are not affected by, the overall profits or losses of the LLP.|
|Condition B (significant influence), is assessed at 6 April 2014 or later when the individual becomes a member and is not reassessed again unless the member’s arrangement with the LLP changes.The test is that the individual does not have ‘significant influence’ over the affairs of the LLP.|
|Condition C (sufficient capital contribution to the LLP) – HMRC’s guidance includes some examples of when they would consider that the arrangements put in place to avoid a member being treated as an employee as a result of this condition to be tax avoidance and will therefore be disregarded.The test is that the individual’s capital contribution to the LLP is less than 25% of the disguised salary which the LLP is reasonably expected to pay to him/her in a relevant tax year. This test requires further consideration where there are changes in the individual’s capital contribution during the year or there is another change in circumstances.|
If your business is structured as an LLP and the new provisions mean that some members are to be treated as employees in future, it will be necessary to see whether a new contract of employment of employment should be issued to them. Sofie Persson, a specialist employment lawyer at Engleharts, is happy to advise you on what documentation is required and what action needs to be taken. You can contact her on 01273 204411 or by email to email@example.com
You can access a supplementary Briefing on this subject here from Sofie Persson. It explains the significance of the distinction between employees, workers, self-employed contractors and it also highlights the legal status of volunteers and consultants. There is also another supplementary briefing from Martin Pollins here.
I am indebted to Sofie Persson for her contribution to this blog post, which has been most helpful.