PAYE140020 - The PAYE discretion at s684(7A)(b) ITEPA 2003 and contractor loans avoidance schemes: contents: Category 2

Category 2: Considerations for offshore and onshore trading income scheme used from 2014 (when applying the PAYE discretion to the original loans)

Where an officer of HMRC may consider exercise of the PAYE discretion
Where an officer of HMRC may not exercise the PAYE discretion
How use of the PAYE discretion may work in practice  

Where an officer of HMRC may consider exercise of the PAYE discretion

Where applicable, an officer can consider exercise of the PAYE discretion in relation to the original loans (Category 2) at the same time as they consider the exercise of the PAYE discretion in relation to the Loan Charge (Category 3). 

Where an individual is not employed and provides services to an entity based in the UK (the End Client) via a third party under the terms of a contract, the current, post-2014 agency rules may mean that the entity which contracts directly with the End Client (usually the UK Agency) could be required to operate PAYE in respect of amounts paid to the individual. 

Where there is a UK Agency contracting with the End Client such that the conditions in section 44(1) ITEPA 2003 are met, that agency should have taken steps to determine whether the remuneration of the individual was being taxed as employment income elsewhere in the supply chain under the requirements of the agency rules. The agency would need to consider whether there were factors which relieved it of its obligation to operate PAYE. 

The requirement to operate PAYE on payments to individuals occurs at the point the individual receives an amount of PAYE income. In a straightforward case, the agency would pay the individual directly, so that the date for the operation of PAYE would be clear. However, schemes are complex and establishing the point the individual receives an amount of PAYE income can be difficult. The UK Agency would need to seek information from entities involved in the schemes and such enquiries are therefore likely to be frustrated, or the pay labelled as loans and claimed not to be subject to PAYE. 

In considering whether to use the discretion HMRC officers must consider all relevant facts and this guidance. 

Where a Category 2 scheme has been used, the following criteria may need to be met if HMRC is to consider exercising the PAYE discretion for payments made from 2014

  • the individual has used a trading income scheme (offshore or onshore), and
  • HMRC accepts that the agency rules apply and as a result the amounts received by the individual may be taxable as employment income and, as a consequence, the PAYE Regulations may apply, and
  • an HMRC officer considers it is reasonable to conclude that due to the structure of the scheme it may not have been possible for a UK Agency to determine the timing of the payment of PAYE income or the nature of that income in order to operate PAYE

HMRC does not need to know the identity of the UK Agency to be able to use the PAYE discretion, provided HMRC has sufficient information about the way the scheme operates so that it is reasonable to conclude that it may not have been possible for a UK Agency to determine the timing of the payment of PAYE income or the nature of that income in order to operate PAYE.  

It is not necessary to test the actual motivation and knowledge of entities or persons

  • that HMRC does not know about, or 
  • that have ceased to exist, or 
  • where the evidence HMRC holds is such that it reasonably demonstrates that it may not have been possible for a UK Agency to determine the timing of the payment of PAYE income or the nature of that income in order to operate PAYE

Where an officer of HMRC may not exercise the PAYE discretion               

An officer of HMRC may not generally consider exercise of the discretion where

1. HMRC possesses evidence that the UK Agency was aware of the timing and nature of the payment of PAYE income.

2. HMRC is aware the individual is, or was immediately before joining the scheme, a company director of the UK Agency.

How use of the PAYE discretion may work in practice

The officer should check the individual’s customer record to see what information HMRC has on file, or has obtained through investigating their use of the scheme, to help them determine whether

  • HMRC has sufficient information about how the scheme operated in order to determine that the scheme is a trading income scheme where the agency rules apply and that the entity that contracts directly with the End Client (usually the UK Agency) might be liable to comply with the PAYE Regulations in relation to the individual’s employment income. This will typically be as a result of an individual claiming the agency rules apply and HMRC agreeing
  • it is reasonable to conclude that it may not have been possible for a UK Agency to determine the timing of the payment of PAYE income or the nature of that income in order to operate PAYE
  • the individual is, or immediately before joining the scheme was, a company director of the entity that contracts directly with the End Client (usually the UK Agency)

As a guide, the following factors might be relevant in determining whether or not it is reasonable to conclude that it may not have been possible for a UK Agency to determine the timing of the payment of PAYE income or the nature of that income in order to operate PAYE

  • the presence of one or more intermediaries or other third party between the UK Agency and the individual, particularly where there is evidence that at least one of the intermediaries is complicit in the scheme
  • any other factors that indicate it may not have been possible for a UK Agency to determine the timing of the payment of PAYE income or the nature of that income in order to operate PAYE

It is possible that there may be a connection (such as common directorship or shareholding) between the UK Agency and promoter, or other scheme entity which could indicate awareness of or complicity in the scheme. If so, then the officer may conclude that the UK Agency should have known about the timing and nature of the payment of PAYE income and therefore it may be inappropriate to exercise discretion.

The officer should consider all the facts and available evidence when making a decision; the above lists are not exhaustive.