Compliancy and the contractor

Compliancy and the contractor

As a contractor, how can you be sure that you are paying the right amount of tax? Ben Dunn looks at the issue of Employee Benefit Trusts and tax compliance for contractors.
Compliancy and the contractor
As the country slowly moves away from the gloom of recession and edges towards recovery, there are signs that the heating and plumbing industry is likely to experience a more profitable year. Factors such as increased construction rates and the atrocious weather conditions experienced in many parts of the UK this winter mean that heating engineers, plumbers and associated professionals are likely to be in high demand.
As an industry, heating and plumbing is heavily reliant on contractors to meet both domestic and commercial demand. While operating as a contractor has numerous advantages and can be very financially rewarding, there are important factors to consider such as cash flow, customer solvency and paying the right amount of tax.
Often changeable and complex, tax can be a tricky issue for the contractor to get right. Nobody wants to pay more than they have to – but at the same time, it’s important to pay what you owe. The key is to remain compliant at the same time as getting maximum value from your earnings.
Employee Benefit Trusts
Alleged tax ‘loopholes’ and schemes that have been set up to help contractors to minimise their tax contributions have recently come under even closer scrutiny from HMRC. While the promise of retaining 90% of your income is tempting, many of the schemes that quote these figures operate by using/abusing offshore trusts known as Employee Benefit Trusts (EBTs), which are often based in offshore tax havens.
When being paid via an EBT, the contractor receives a small basic salary that is subject to UK income tax and national insurance contributions. However, most of their pay comes in the form of a loan, and the contractor pays only the tax on a notional rate of interest on the loan. This means less is deducted from gross pay, with more take-home pay remaining.
Collecting revenue
HMRC has made it clear that payroll tax avoidance and EBTs are firmly in their sights. As a result, the tax office has been systematically closing many offshore tax avoidance schemes. This has proven to be a lucrative source of revenue with the Financial Times reporting that it has yielded an estimated £533m in additional taxation in the year to April 2013 – over double the previous year.
With an estimated £2bn in unpaid tax still to be collected, payroll schemes and EBTs are likely to continue to be scrutinised for some time to come.
This means that contractors should consider reviewing the legitimacy of their arrangements. Unfortunately, if a scheme is shut down it is the contractor who is liable rather than the scheme provider. This means that the contractor bears the sum of any unpaid taxation, plus any interest and penalties. Some EBTs aim to reassure users by claiming to offer legal cover protection in the eventuality of an investigation. However, in practice, the EBT is often closed before a claim can ever be made.
What to avoid
EBTs are complex to set up and, as the contractor is reliant on the compliance of offshore trustees, benefits cannot be guaranteed.
HMRC advocate avoiding EBTs that offer any of the following:
• Payment of bonuses via an offshore trust in an attempt to avoid employers’ NICs.
• Payment of remuneration by way of loans, which may be written off before they become repayable.
• Making loans in depreciating currency from which the borrower may make a foreign exchange gain before the loan becomes repayable.
• Allowing employees to use assets (such as cars) owned by the EBT, the costs of acquiring which would be capital expenditure if they were owned by the employing company.
• Providing benefits in the form of shares (not in the employing company) whose values can be most easily manipulated before or after they are transferred from the EBT to employees or directors.
Seeking an alternative
Fortunately, there are other viable options for contractors. For example, as a result of HMRC’s increased vigilance, there has been a significant rise in demand for both umbrella and limited company solutions. When set up properly by a qualified provider, these solutions are fully compliant, offering all-important security and peace of mind. They are also tax efficient, ensuring that the contractor is able to legitimately maximise the income that they are entitled to.
However, with so much conflicting advice and so many ambitious promises, it can be difficult to make the right choice when looking for an umbrella or limited company provider.
While there are some practitioners who operate at the margins, there are also many legitimate companies who will offer you sound advice and operate in full compliance with HMRC. If in doubt, check that the company you choose is audited and a member of the Freelancer and Contractor Services Association (FCSA).
Having gone through some difficult times over the past few years, contractors working within the heating and plumbing industry need to ensure that they are in a position to take advantage of the better times that look likely to come.
The first step to achieving this is to organise any financial affairs efficiently by consulting with the specialists who can offer unbiased advice. This way, a contractor can be confident of compliance while making the most of their earning potential.