No records? PAYE and penalties apply
By Justine Riccomini, Head of Tax (Employment and Devolved taxes)
27 June 2022
Justine Riccomini explains why an employer who did not keep proper records had to pay PAYE arrears and penalties for failure to make PAYE returns even though no PAYE would otherwise have been due, and asks: Do you have clients like this?
This tax case, known as the Hedges case, which was heard at the First Tier Tribunal in November 2021, the decision having been handed down in March 2022, is not a big hitter in terms of money. In fact, the amounts claimed as due by HMRC in PAYE and penalties amounted to less than £16,000.
However, it’s not money that matters here – it’s the principle, and the often underestimated power of the PAYE Regulations. Generally speaking, the PAYE Regs are very good at placing the burden firmly in the employer’s lap when it comes to not only operating a payroll, but also proving that they have carried out the right processes when it comes to operating PAYE. The Employer’s Further Guide to PAYE sometimes fails in its use of simplistic language to convey the serious nature of the record-keeping requirements - and attention must therefore be paid to every subtlety.
In this case, none of the employees concerned earned enough to pay any PAYE. So how did the employer end up getting their knuckles rapped and presented with a bill for 4 years’ PAYE arrears and penalties?
Background
The Farmhouse public house in South London found itself under the scrutiny of an employer compliance review whereby the compliance officer discovered that Hedges, who was the manager and lessee of the pub, had been employing staff without maintaining the required standard of records as described in the Employer’s Further Guide to PAYE. What was he doing wrong?
The compliance officer established that although the employees did not technically earn enough in that employment to suffer PAYE deductions from their pay, the pre-employment checks including starter checklists which should have been completed by the employer were absent, as was any form of Real Time Information record-keeping. As such, it would not have been possible for Hedges to prove that he had made the necessary checks to determine whether the employees were earning income from other sources and potentially using up their UK Personal Allowances elsewhere.
Cardinal rule – back to basics!
As payroll and employment taxation professionals know, the cardinal rule on commencement of employment is to establish this fact pattern. The default position is then to operate BR tax codes (or if they are a higher rate taxpayer, DO) on any new employee who cannot declare the employment they are about to commence is their only or main job in accordance with the starter checklist.
It is vital that employers get this first step right – to ensure that the employee is paying the right amount of tax at the right time. HMRC reserves the right to charge PAYE arrears on this basis alone.
Half cocked
The FTT found the facts showed “that there was a PAYE scheme set up in relation to Mr Dean Hedges’ employees at the Farmhouse pub, which operated from 6 April 2013 to 1 November 2013 and that 7 months of nil returns were made. At this point, the scheme was cancelled”.
Hedges argued that he had been instructed by HMRC to discontinue the PAYE scheme – but his record keeping was unable to prove this. It appears, when reading between the lines, that Hedges had simply decided to stop operating the scheme because no-one was paying any taxes, so to him, it was simply a superfluous administrative exercise. Unfortunately, this meant that he was not adhering to the PAYE Regulations and had inadvertently tripped himself up.
HMRC’s stance – using the available legislation to collect tax and impose penalties
The Tax
HMRC issued Regulation 80 Determinations under the Income Tax (PAYE) Regulations 2003 (SI 2003/2682). Regulation 80 applies if “it appears to HMRC that there may be tax payable for a tax year” under Regulation 67G or 68, which both require employers to pay over amounts of PAYE deducted to HMRC.
Where it applies, HMRC can calculate the tax they deem to be due “to the best of their judgment”, and service notice of their determination on the employer, which is given legal force by Reg 80(5), which allows HMRC to compute the liability on the employer as if it was an assessment of income tax made under Sections 34 (TMA 1970) – in other words, as if the amount of tax determined was income tax charged on the employer.
Sections 34 and 36 of TMA 1970 allow HMRC to raise assessments:
(1) For any reason within 4 years from the end of the year of assessment to which it relates, and
(2) Where the loss of tax is brought about carelessly by the taxpayer, within 6 years of the end of the year of assessment to which it relates
The Penalties – PAYE returns and Real Time Information returns
Before 2015, the penalties for failing to make PAYE related returns for small employers were within the Taxes Management Act s.98A. However, Paragraph 6C of Schedule 55 to Finance Act 2009 applies, from 6 March 2015, to make a person who fails during a tax month to make a return on or before the filing date liability to a penalty of £100 for each real time information return that is not filed (where there are no more than 9 employees).
What was the Tribunal asked to do?
The FTT’s task was to determine:
- Was HMRC entitled to issue regulation 80 determinations?
- Were the determinations issued according to best judgment?
- Has the taxpayer displaced the figures in the determinations?
- Did HMRC comply with the time limits for these determinations?
The FTT needed to consider whether Hedges had been careless in failing to report the payroll details required under the law in the proper manner. Due to the fact that “reasonable care” is not defined in the legislation, they referred to previous FTT cases where the concept of “reasonable care” had been a consideration, and specifically quoted Collis v HMRC [2011] UKFTT 588 (TC). This enabled them to conclude that Hedges had not taken reasonable care, which would allow HMRC to consider Reg.80 determinations.
Having established that HMRC had complied with the legislative provisions in both issuing the Reg 80 determinations and observing the time limit protocols, the FTT considered C & E Commrs v Pegasus Birds Ltd [2004] BVC 788 to determine whether HMRC had used its best judgement. They concluded that they had, albeit with some minor amendments to the computational elements in 2013 where the tax and penalties were deemed to be incorrect and revised downwards, noting that:
“The Tribunal should remember that its primary task is to find the correct amount of tax, so far as possible on the material properly available to it, the burden resting on the taxpayer. In all but very exceptional cases, that should be the focus of the hearing, and the Tribunal should not allow it to be diverted into an attack on the Commissioners’ exercise of judgment at the time of the assessment.”
Conclusion
Agents and employment taxes experts should be mindful of the fact that periodic discussions with employer clients who operate their own payrolls should cover off this area, and it should ideally also be considered during annual audit risk assessments and due diligence exercises under M&A processes.
It’s the little things that can come back to bite you.