Background

Revenue’s National Contractors Project is aimed at addressing very specific problems that emerged through audit activity. A succession of tax audits had revealed that individuals were providing their services to clients (“end-users”) via intermediaries - often, but not exclusively, personal service companies. The intermediary treats the individual as an employee and operates PAYE on the remuneration which it pays to the individual. An assumption underlying these arrangements is that the individual is not an employee of the end-user. While this may be true in the generality of cases, the facts will determine whether or not there is an implied contract of employment between the individual and the end-user.

The tax audits have revealed that in some instances the use of intermediaries has resulted in evasion, which arose when intermediaries paid tax-free “expenses” in circumstances where the expenditure had not actually been incurred. In other circumstances, the expenses had no relation to the business. It was clear that some contractors were using the device of an intermediary company (which they usually owned or controlled) to contend that they are compliant PAYE taxpayers, while actually extracting a large part of the company’s contract income from the company free of tax in circumstances where such income should have been taxed. In some of the worst cases encountered, up to 70% of income was extracted in this manner.

While the project was intended to be narrowly focused, there are many different circumstances arising, which give rise to requests for clarification. The purpose of this article is to address the treatment of expenses and the procedures which Revenue is adopting for this project.

Revenue’s Approach

Revenue’s Contractors Project is designed to deal quickly and cleanly with the particular problem. Contractors whose accounts show unusually high proportions of expenses are being identified for compliance intervention.

To facilitate disclosure, we adopted the practice of providing assistance to those who were experiencing difficulty, and where a genuine effort is being made, we accept amendment of disclosures following discussion. At the same time, tax agents have been invited through their professional organisations to encourage their clients to consider whether they should make an unprompted qualifying disclosure.

We are also ready to discuss methods of paying the disclosed amounts where there is an inability to pay in one sum. Within the disclosure itself, we undertook to accept disclosures that dealt with the four specified years provided the resulting level of expenses was within industry norms, and provided we had no specific knowledge that the declaration was likely to be false. This is a considerable concession, because Revenue routinely checks disclosures in some detail. Finally, for the purposes of this project we advised that Revenue would not seek to “re-gross” expenses in calculating the tax underpayment. We have adopted this approach on the understanding that the parties concerned will comply strictly with the law in future. In the event of a future re-audit discovering this not to be the case, then Revenue will not feel bound by the approach adopted to date in relation to re-grossing, and future tax underpayments, and associated interest and penalties will be pursued.

Treatment of expenses of travel and subsistence where the services of an individual are provided through an intermediary to an end-user

The publicity attracted by the National Contractors Project has caused some questions to be raised about the application of tax rules, and has led to requests for general rulings from Revenue about hypothetical cases in a wide variety of situations.

The basic legal provisions are in the Taxes Consolidation Act, which provides in Section 81 that a business may not deduct expenses that are not “wholly and exclusively” incurred for business purposes. Section 117 provides that sums paid as expenses are assessable as emoluments of the office or employment, while Section 114 provides for a deduction in respect of expenses which an employee or office-holder is necessarily obliged to incur in travelling in the performance of the duties of the office or employment or other expenses wholly, exclusively and necessarily incurred in the performance of the duties of the office or employment.

The Act does not make specific provision for the payment of tax-free expenses. However, to avoid the operation of PAYE on expenses which would then lead to repayment claims on foot of deductions due under Section 114, Revenue has long accepted that expenses which meet certain conditions may be reimbursed tax free in certain circumstances. Revenue has given detailed guidance on the circumstances in which tax-free reimbursement of expenses may be made in its Statement of Practice SP/IT/2/2007 in information leaflets IT51 and IT54, and in this year’s Tax Briefing 3 of 2013, all available at: www.revenue.ie.

The guidance given in Tax Briefing 3 of 2013, entitled “Reimbursement of Travel and Subsistence Expenses by Intermediaries”, clarifies the Revenue position on the circumstances in which expenses of travel and subsistence may be reimbursed free of tax where the services of an individual are provided through an intermediary to an end-user, generally at the premises of the end-user. Services provided through an intermediary include services provided through a personal service company, a managed service company or an agency.

The key characteristic of the arrangements which are the subject of Tax Briefing 3 of 2013 is that the end-user is acquiring the services of a specific individual who will work under the general direction and control of the end-user. In some instances, the contract between the end-user and the intermediary will be explicit in identifying the individual whose services are being acquired by the end-user. In others, it will be apparent from the nature of the services, the manner in which they are provided and the conduct of the parties, that what is being provided is the services of a specific individual.

The main point which Tax Briefing 3 of 2013 sought to clarify is that, in applying previous Revenue guidance to the arrangements referred to in the Tax Briefing, home cannot be treated as a “normal place of work”. Revenue does not accept that the fact that administrative work is carried out at home, or that home is the registered office of the intermediary alters this position. It follows that the cost of travel to and from home may not be reimbursed free of tax. As Tax Briefing 3 of 2013 points out, in most instances, the end-user premises is the normal place of work and expenses of travel and subsistence may be reimbursed free of tax in respect of necessary business absences from this normal place of work.

In referring to the “normal place of work”, Tax Briefing 3 of 2013 was picking up the terminology of previous Revenue guidance. At the same time, it is important to bear in mind that “normal place of work” is not mentioned at all in statute. The true test of whether the cost of travel is allowable for Schedule E purposes is whether the journey was necessarily incurred in the performance of the duties of the office or employment. This is a test which has repeatedly been recognised in various judicial pronouncements as narrow and hard to meet.

Some of the scenarios in the examples in Tax Briefing 3 of 2013 would be rather unusual in the context of an intermediary which provides the services of an individual to an end-user. Nevertheless, they are intended to bring out the circumstances in which Revenue will accept that the cost of travel and subsistence may be paid tax free to an individual whose services are being provided via an intermediary.

Applying the foregoing test to the scenarios in Tax Briefing 3 of 2013, Revenue’s view is that a journey from the person’s home to a job is not a journey necessarily undertaken in the performance of the duties of the employment. The person is simply travelling from home. The length and cost of the journey is not imposed by the office or employment but is dictated by the choice of place of residence of the individual concerned. Similarly, an individual whose services are provided via an intermediary and who incurs expenses in living away from home cannot claim the cost of living away from home.

The fact that an intermediary may provide the individual’s service under a series of short-term contracts does not alter the position. Each location at which the individual provides services becomes a “normal place of work” while the services are being provided to that end-user. The expenses of travelling from home to each of these locations or the expenses of living at those locations cannot be reimbursed tax-free.

Treatment of Expenses of Travel and Subsistence in other Cases

The situations dealt with in Tax Briefing 3 of 2013 are to be distinguished from situations where a company provides goods or services, other than the services of a specific individual, to its customers or clients. There is no change in Revenue’s interpretation or application of the law in relation to such cases. Previous Revenue published practice as set out in Revenue leaflets IT51 and IT54 and Statement of Practice SP IT/02/2007 continues to apply.

Family Members as Employees

The question of whether any individual is an employee of an intermediary company can only be determined in the light of the particular facts. This applies equally to the engagement of family members of directors. Revenue has found that, in some of the cases examined in the course of the project, alleged employments of family members were not bona-fide. Revenue will continue to examine such arrangements to determine whether they have been put in place on an arm’s length basis. This means that the family member must be performing services or duties in the business and rates of pay must be similar to the rates paid to other employees doing the same type of work. If the pay is for technical work, the employee (payee) should have the skills, qualifications and experience necessary to carry out that work and to justify the rate of pay.

Penalties

As outlined in the Code of Practice for Revenue Audit, auditors will exercise care in considering whether penalties arise in any particular case, and in considering the appropriate category of tax default. Because of our experience with early cases encountered, Revenue’s view is that the type of activity being targeted in this project is in the deliberate behaviour category. Of course, the circumstances of each case will inform the level of penalties being proposed. The deliberate behaviour category is fully appropriate where the claimed expenses are not incurred, or not incurred in connection with the business. A lower penalty is appropriate where it is clear that the practice at issue resulted from a reasonable interpretation of the law or practice which turned out to be incorrect.

Where a taxpayer does not agree to the level of penalties being proposed, Revenue may seek to have the penalty determined by a relevant Court [Paragraph 4.5.3 of the Code of Practice contains more details]. Where the default is in the deliberate behaviour category, and if a “Notification of a Revenue Audit” has not issued, the penalty level proposed is 10%. A taxpayer who has received a “Notification of a Revenue Audit” still has an opportunity to make a prompted qualifying disclosure, and the penalty payable will be 50%, where the default is in the deliberate behaviour category. Where any default is shown to be due to careless behaviour or innocent error, much lesser penalties, if any, will apply. Finally, those who have a liability to additional tax, due to deliberate behaviour, and make no effort to make a disclosure (or make a false disclosure) are liable to penalties ranging from 75% to 100%, and to audit of several years if evidence of possible tax fraud is discovered. In particularly serious situations, consideration will be given to investigating with a view to prosecution.

Protocols in relation to the making of Disclosures

All matters in relation to qualifying disclosures are dealt with in accordance with legislation and the Code of Practice for Revenue Audit.

Who is being Audited?

In general the focus of the audit will be on the intermediary company and the individual. It may be necessary in some cases to extend the scope of the intervention to other directors to verify particular aspects of the matters under review. All taxpayers who are to be audited will receive a “Notification of a Revenue Audit”.

How many years are being Audited?

In order to deal quickly with the problems identified Revenue decided not to launch an open-ended audit programme, but instead to focus on just four years – 2008 to 2011 - and to encourage tax agents to advise their contractor clients to review those years and make disclosures where appropriate.

Previously Audited

The fact that a case was previously audited [Comprehensive or PAYE (Employers)] and the matter of the tax-free reimbursement of expenses was not raised does not preclude Revenue from raising the matter in the course of an audit under the Contractors Project. The fact that deliberate default was not discovered on an earlier audit does not mean that Revenue has approved or excused the default. Where the treatment of expenses was specifically raised during an earlier audit, Revenue will consider accepting any subsequent adjustment as a Technical Adjustment, without penalty. For a technical adjustment not to attract a penalty, the auditor must be satisfied that due care has been taken by the taxpayer and that the treatment concerned was based on a mistaken interpretation of the law or practice, and did not involve deliberate behaviour. However, an exception to this treatment might be where the level of expenses which should have been taxed increased substantially in years subsequent to the audit.

Inability to Pay

Claims to Inability to Pay are dealt with in accordance with Paragraph 4.9 of the Code of Practice.

No Liability

Many individuals are satisfied that they have no need to make a disclosure because their affairs are in order. While we do our best not to trouble such people, some may receive audit notices, normally where the expenses appear high for the business in question. In that case, it will save a great deal of trouble if the contractor writes to Revenue stating why he/she believes there is no outstanding liability, and briefly explaining why the nature of the actual business generates unusually high expenses.

Review/Complaint

For those who feel they have been unfairly treated, the procedures for seeking a review are set out on Revenue’s website: www.revenue.ie

Progress to Date

Well over a thousand audit letters have been issued by Revenue, and the response has generally been engagement by the contractor to discuss the making of a disclosure (Revenue officials offer advice if required), or to explain why they have no need to do so. There is also a steady flow of disclosures from those who have not yet been selected for intervention. The small group who have decided not to engage have entered the audit process.

Revenue has met with companies, tax agents and representatives of both contractors and recruitment agencies to discuss the project, and to allay some ungrounded fears about Revenue’s intentions. Revenue has not changed its interpretation of tax law. It is focussed on dealing with tax evasion which, if left unchecked, will result in unfairness to other compliant taxpayers and a loss to the Exchequer.

The national project has identified a very wide range of structures and practices being used by contractors, and it has become clear that this project (or a successor) may need to continue for some time, to deal with issues specific to subsets of the contracting sector, and with connected issues.

Source: Revenue Commissioners. www.revenue.ie Copyright Acknowledged.