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CIS – there may be trouble ahead! By Rebecca Benneyworth

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7th Feb 2008
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Browsing Any Answers recently I spotted the first question of I suspect many on the topic I have been waiting to see for over a year now.

“A client has been moved from gross to net under CIS. He doesn’t think he has done anything wrong and is frantic! Nobody can tell me what it is all about – except it’s something to do with sections 66(1) of a Finance Act (unspecified). Help!” Or words to that effect.

So what is this all about? And why have I been expecting this, and will it be widespread?

We’ll start with the technical details. Most people know that one of the aims of the new CIS scheme which came in nearly a year ago was to improve compliance in the construction industry. This is part of that objective, and it is going to present some serious problems. Under the old scheme, it was normally when the gross payment certificates were renewed that subcontractors were called to account for their tax compliance (or lack of it) during the three preceding years. If they fell foul of the rules, then there was the possibility of pleading before the Commissioners that the compliance breach was “minor and technical” – a term which was not explained in law, but which the Commissioners could on occasion treat as quite broad, thus solving the problem for subcontractors in this position.

Under the new scheme, we are faced with Section 66(1) Finance Act 2004, supplemented by the Regs, SI 2005 No 2045. Section 66 says that HMRC may at any time raise a determination transferring a subcontractor from gross to net payment status if an officer believes that were the subcontractor to apply for registration for gross payment at that time he would be refused. In simple terms, this means that as soon as you are in breach you can be kicked off gross status.

Now the practical side. In October 2007, HMRC announced that the TTQT was starting. This stands for Tax Treatment Qualification Test (or something close to that). Under this, in the first month one twelfth of gross registered subbies were selected for scrutiny at random. Their tax compliance over the previous 12 months (the shorter period was introduced under the new Scheme) is then looked at and if they have unacceptable breaches they receive a determination moving them to net status and notice of right of appeal. In the following month a further sample of one eleventh of the remainder are checked and so on until all gross registered subbies have been checked over the course of a year. The process then starts again with a random sample of one twelfth. So every gross registered subcontractor gets looked at every year, but it is not necessarily a year between compliance checks – it is anything from one month to two years. That way, nobody knows when they are being (or will be) checked.

The breaches of tax compliance can arise in almost any area but not VAT, oddly, as the legislation was written when the Inland Revenue was still separate from Customs and Excise. However, HMRC do not expect every subcontractor to be 100% perfect, so the principle of the “minor and technical” default is still with us, but is sadly not within the remit of the Commissioners. This is where the Regulations come in. Table 3 which is in Regulation 32 sets out the “slippage” permitted. It describes the situations under which a subcontractor will be regarded as compliant, even where there have been breaches. However, there is no room for interpretation and the limits are quite strict. They are better described in Fact Sheet 343 (which is available in a number of foreign languages, including Polish) :

“To pass the compliance test, you and any business partners (or your company and each of its directors) must, during the 12 months up to the date of the application, have done all of the following.

  • Completed and returned all tax returns sent to you.
  • Supplied any information to do with your tax that we may have requested.
  • Paid by the due dates
    • all tax due from yourself or the business
    • all your own National Insurance contributions (NICs)
    • any PAYE tax and NICs due from you as an employer
    • any deductions due from you as a contractor in the construction industry.”

“When considering whether you have passed the compliance test, we will disregard, during the same 12 month period, any or all of the following.

  • Three late submissions of the monthly return – up to 28 days late.
  • Three late payments of CIS/PAYE deductions – up to 14 days late.
  • One late payment of Self Assessment tax – up to 28 days late.
  • Any employer's end of year return made late.
  • Any late payments of Corporation Tax – up to 28 days late, including where any shortfall in the payment has incurred an interest charge but no penalty.
  • Any Self Assessment return made late.
  • Any failures classed as 'minor and technical' in relation to your obligations under the old Scheme, where these fall within the 12-month period up to your application.”

Looking at this, you will see immediately that if your client was one of the businesses which failed to send in any new monthly CIS returns at all by the end of September 2007, then as soon as his “number comes up” for TTQT he will be reclassified as net, for submitting at least 5 late returns. Many subcontractors are also contractors, so this is a real risk.

So now it is clear what is expected of subcontractors, but what can you do when the dreaded letter arrives? First the grounds of appeal is that the subcontractor has “reasonable excuse” for his failure. To establish this you will need to know exactly what breach is the fatal one so that you can consider whether he has sufficient grounds of appeal. You will need to lodge this within 30 days and the change in tax status does not take effect until after the period allowed has expired or the appeal has been determined.

For those who lose their gross payment status, the cash flow impact can be a disaster, and may even bring the business down. Are there any other mitigating steps you might consider? Well, it is a long shot, but you might improve things by incorporating the client, provided he has some staff or subcontractors of his own. In this case, the CIS tax suffered can be set off against CIS or PAYE / NIC due each month, thus eroding the loss of cash flow. For an unincorporated business no such set off is possible, as the tax suffered is set against the eventual liability for the year, so he must wait for the credit. However, this will not save everyone. Any business facing making gross subcontractor payments out of net receipts is quite clearly in serious financial trouble. There is good evidence to suggest that this issue will become quite widespread as time goes on.

Addendum - HMRC response to Rebecca Cave's query

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Replies (19)

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Rebecca Benneyworth profile image
By Rebecca Benneyworth
20th Aug 2008 18:32

more help
Section 66 only relates to the loss of gross status. This relates to breaching the compliance conditions, which cover all aspects of tax except VAT. Read through the article above - that should help a bit, or try Helpsheet CIS 343 whihc yoiu can get from HMRC's website in the CIS area.

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By Anonymous
20th Aug 2008 11:42

Thanks
but please would you clarify how the compliance failures relate to almost any area when that isn't how I read s66(1) FA04 - it seems to read that it is failure in any capacity acting as a contractor or subcontractor as opposed to complaince failure in role as a taxpayer . Perhaps I am missing something?

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Rebecca Benneyworth profile image
By Rebecca Benneyworth
19th Aug 2008 14:10

Your only hope
would be to plead reasonable excuse, as you are way outside the tolerance allowed. The payment on account reduction is irrelevant as the main balance for the prior year is so late in any event it is enough to trigger loss of exemption.

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By Anonymous
19th Aug 2008 09:21

HELP
I have a client about to lose gross status (HMRC citing s66(1) FA 2004)

Client failures are apparently (not double checked yet!) that

SA balancing payment re 2006/7 due 31 Jan 2008 not paid until April
SA POA due 31 Jan 2008 o/s at 28 May
SA POA due 31 July 2007 paid late on 30 Oct 2007

surcharge outstanding

Is there any scope in claiming cashflow and that the POA should have been reduced (and accept interest if needs be at later stage)

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By AnonymousUser
10th Apr 2008 09:32

Late corporation tax
Can someone please explain the rules regarding late payment of CT - I just can't get my head round the "up to 28 days late, including where any shortfall in the payment has incurred an interest charge but no penalty"

Since ANY late payment will incur an interest charge, just what is meant by a shortfall in the payment? Say client pays tax on time, based on draft accounts, but a late adjustment in respect of disallowed entertaining results in additional tax of £100 which is not paid within the 28 days - is this a breach or is it covered by the exemption? What if the additional tax is £50k as a result of a reversal of bad debt provision in the draft accounts? If both cases are treated as shortfalls, resulting in interest only, does it matter when that shortfall is made good? If not, what about the company that pays £1 on the due date and the balance of its liability 29 days later? To me, that would be obvious abuse, and likely to fail - even so, the balance is strictly still a shortfall. Perhaps the answer lies in the 'reasonable excuse' grounds - that may apply in the first two examples, but not the last?

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By rfg.sandwood
04th Apr 2008 11:56

CIS Review
Currently suffering from this review due one late PAYE payment according to the letter due on the 22nd December 2006 received 12th January 2007 -everything else very prompt. problem is no account seems to have been taken of the Christmas break. We closed down for 2 weeks like much of the industry from the 22nd and, indeed my accounts assistant took another week. Our clients (Housing Associations) are not interested in deducting tax so the implications are immense of losing gross payment status. Obviously we have appealed but it is the proportionality of the action that concerns me. One member of staff a bit too involved in Christmas celebrations leaves a cheque in her out tray instead of the post tray could lead to a company closing down and 60 people losing their jobs.
The one bit that did amuse me was that it took 15 days from the date on the notification letter for it to arrive with us - half of our appeal time.One rule...

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By stevedicker
13th Feb 2008 16:45

CIS - Invoice discounting
There are worse implications for any sub contractor now receiving net payments on invoices which are 'factored' to help with cash flow. It seems that the banks are reluctant to enter into any such arrangements with customers who will be facing a CIS retention on their invoices; thereby effectively removing this industry sector from using invoice discounting or 'factoring' altogether. Was it HMRC's intention to remove this option from new growing sub-contractor companies?

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By jivebunny
13th Feb 2008 16:56

Withdrawal of Gross Payment Status
I have recently submitted an appeal against the decision to withdraw a client's gross payment status. The letter notifying the decision from Scotland South Area was issued 17th January 2008 but not received till 25th January 2008 and stipulates appeal within 30 days of issue. The reason for withdrawal is clearly set out under a paragraph headed "Compliance Failures". In this case due to severe cash flow problems my client was late with first and second payments on account for 2006-07 and late by 18 days in respect of PAYE & NIC for month 9 of 2006-07.
My client has two years work in hand on his current contract and will probably have to pull out if this decision is allowed to stand.
Watch this space for the result of my appeal.

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By Anonymous
08th Feb 2008 14:33

Letters
Not helped by the Revenue not issuing the letters to the subbies telling them that their status is being changed.

The first we heard was when our customers started querying the letter they'd had about our status. HMRC have confirmed we're not the only one in this position.

This annual compliance test has been kept very quiet imo. All the Revenue could say was people had been told in 2005. Great.

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By AnonymousUser
08th Feb 2008 12:29

How do you know what the breach was?
I haven't seen an example these notice letters emerging from the TTQT reviews, but from the Any Answers question referred to above it seems that precise details of the breach are not given.

How can the contractor appeal if HMRC will not tell them exactly what they have done wrong? Does the adviser have to do a full compliance audit of the contractor's affairs to guess where the breach might lie? Even if this audit is carried out it can't tell you exactly when the tax payments or forms reached HMRC, so the compliance breach may have arisen due to an unknown delay in the post.

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Rebecca Benneyworth profile image
By Rebecca Benneyworth
08th Feb 2008 14:50

There was some publicity
The pre publicity was not very good, although I certainly covered it on any courses I presented, as I considered it was a very big potential issue. I think most contractors and subbies were however concentrating on other aspects of the new regime. In October 2007 the start of TTQT was quite widely publicised, but it was of course too late for those caught in the trap by then.

I am also concerned that many contractors were misled by the moratorium on penalties for the first six months of the new regime. What they did not realise is that the non submission or late submission of returns could count against them under TTQT - unless HMRC are ignoring defaults due to late CIS 300 for April to September 2007? That would be a very sensible thing to do.

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By AnonymousUser
11th Feb 2008 16:03

Tip of the Iceberg
This may be the start of the Revenue using their new information but I think it is very far from the end.

Now that the system has been running for 9 months the Revenue will start to have an idea of which subcontractors are working for just one contractor.

After 9 months I think that the Revenue could be justified in looking at the status of the subcontractor who has worked for only one contractor since the new scheme started and rather than change him (or her) from a gross basis to net there must be a case for saying that the self employment status is not correct and that the subcontractor should be put on PAYE.

I think this may be one of the main reasons behind monthly returns of subcontractors.

Watch out over the next few months for the level of status enquiries to rise.

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By AnonymousUser
12th Feb 2008 08:58

1 day late...........
I have a client who has received one of these letters for being one day late with his 31 January 2007 SA payment, i.e. it was received by the Inland Revenue on the 1 February 2007.

The second reason given was that the £2 worth of interest arising on this late payment was not settled until the 31 July 2007.

Absolute madness!!

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By chris.lambert-chapman.co.
14th Feb 2008 13:36

Compliance history is not always 12 months
The HMRC letter advises that if an Appeal is not made within 30 days of the date of the letter HMRC will write to all contractors telling them that all payments made after the period of 90 days from the date of the letter will be made after deduction of tax. The timing can easily mean that the sub-contractor could have only a short while to go before they have a good compliance record for the last 12 months yet that is not taken into account and they are subjected to 'a 12 month sentence'.

I have recently experienced a letter, a copy of which was not sent to my client, it contained a fundamental error on one of the reasons for failure and cited another reason being the late payment of approximately £3 interest, being received by me 12 days after the postmark which means the Appeal period is now 18 days.

There was a late payment of tax which was due by 31st January 2007 but not paid until March 2007. The only failure after March 2007 was the payment of approximately £3 interest which wasn't settled until July 2007. A tiny sum but one which HMRC has referred as a failure even though it would seem that HMRC don't usually chase for such small amounts.

Putting aside the matter of the Appeal, if we look at the timing, my client has complied since July 2007 and yet he could have to be on net payment for the period from April 2008 until April 2009. His good compliance record from July 2007 to April 2008 is ignored.

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By AnonymousUser
14th Feb 2008 09:56

Not all doom and gloom
As a firm that specialises in this area of tax law we have been instructed to handle quite a number of appeals since the TTQT kicked in. Like some of the other posts here these range from the sublime to the ridiculous - including one attempt to deregister an otherwise compliant partnership where the partners had paid about £5 late, after HMRC told them not to bother paying it!

The good news is, unlike the old scheme, clients will remain on gross payment status until any appeal is resolved. The old 'rush to the Commissioners' is no longer necessary. Also, there are reasonable excuse provisions for late payments etc. and, despite HMRC's unduly strict interpretation of what can constitute a reasonable excuse, the General Commissioners on appeal tend to take a pragmatic, fair minded and sensible approach. And, yes, this can include cash flow problems - there is no statutory limitation to what can constitute a reasonable excuse (unless you are required to pay electronically).

They key to these appeals is to be well prepared and have your arguments and HMRC's counter arguments thought out in advance, and to have case law and statute to back you up - those are the only things that carry weight in a Tribunal, NOT HMRC guidance or leaflets.

Matt Boddington
Accountax Consulting Ltd

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By RogerCB
13th Feb 2008 18:47

Another appeal
We have had our first notice of gross status withdrawal. The client came to us after his previous accountant died after some months with health problems in 2006. The 2006 tax return was completed by him with a reduction in the payments on account due to an expected drop in profit. The 2007 return was completed and sent to the client for approval on 30 May 2007 and we advised the client he had underpaid by £1248.27 as the expected reduction in tax due to the drop in profit was not quite as much as anticipated by the previous accountant. The client could not find a payslip and so he let us have a cheque on 8 June 2007 which HMRC received on 9 June 2007.

There was left an underpayment of 30 pence which was paid on 25 July 2007 with the late payment interest.

He paid his first POA for 2006 on 11 January 2006, the second on 26 July and the balance on 24 January 2007, i.e. in plenty of time. For 2007 the payments (except for the unexpected extra tax) were similarly paid well before the due dates. I hope that the fact that he has generally paid up in time and this is an isolated occasion will mean our appeal will be successful!

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Rebecca Benneyworth profile image
By Rebecca Benneyworth
13th Feb 2008 09:20

Still the right advice
Peter, this is sound advice anyway, as if the business cannot obtain a gross payment registration, he will be able to set off CIS suffered against PAYE, NIC and CIS due to HMRC instead of waiting until the end of the year to take credit for it. This only works, however, if he uses outside labour which is not "gross pay". In that event he is out of business!

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By AnonymousUser
13th Feb 2008 09:02

CIS - Incorporation
I have a client in this situation and his cash flow is hopeless; I have therefore recommended incorporation. However I am not sure if his past record will be used as evidence when he ,as director,applies for a gross payment authorisation for his company - any comments?

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By AnonymousUser
08th Feb 2008 16:52

Some late monthly returns are ignored
It says on the HMRC guidance
"Consequently, returns that came in late for the months ending 5 May, 5 June and 5 July will not be regarded as failures under the Scheduled Review."
So late returns for August to October 2007 do count.

Can anyone post a copy of one of these notice letters so we can see what they look like?

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