Lack of records lands employer with hefty tax bill

Planet Double Glazing Limited (PDG) was incorporated in May 2009 with Johal as the sole director and shareholder. Since August 2010, PDG has manufactured, supplied and fitted double glazed windows and doors.

Requirements under PAYE

The years under appeal spanned 2011/12 to 2014/15 (TC07764).

Prior to the introduction of real-time information (RTI) reporting requirements in April 2012, unless PDG had evidence in a P46 or P45 which meant that an employee could be treated otherwise, all payments of employment income should have been subject to the PAYE deductions and reporting system.

After the introduction of RTI, as there was at least one PDG employee earning above the NIC lower earnings threshold, the company should have reported payments made to all employees regardless of whether their earnings were above the lower earnings threshold.

PDG did not fully comply with these requirements. Additionally, the company was unable to provide records of its employees and payments made to them other than summaries of PAYE reports, some RTI reports and some P14s.

No written records

There were no written employment contracts for any of PDG’s employees and employees were paid in cash.

PDG did not keep any underlying records to show who was employed at what time, their hours worked, and what amounts were paid, although PDG did start to provide RTI reports in April 2013. 

PDG’s accounts were also unreliable in determining the amounts paid to employees. PDG’s agent explained that the accounts had been prepared with incomplete records and using his best judgment, with the director’s loan account used as a balancing item.

Hefty penalties

HMRC maintained that PDG’s workforce was larger than declared and, as a result, PAYE had not been correctly applied.

In particular, HMRC argued that PDG failed to comply with its obligations under the PAYE Regulations 2003 (regs 46, 49 and 66) when dealing with new employees. As some tax and NIC were deducted it was clear that not all employees were paid below the lower earnings threshold.

HMRC imposed assessments and penalties on PDG totalling £58,822.48, including £7,692.48 for penalties relating to a careless and prompted inaccuracy.

HMRC considered that PDG was heavily reliant on its workforce to generate income, and so there should be a relationship between wages and turnover. HMRC applied a best judgment assessment under regulation 80(2) and estimated that wages costs were 20% of turnover. There was also a presumption of continuity, such that the 20% estimate was applied across all the years under appeal.

Director’s unpaid work

PDG challenged the best judgment basis, upon which HMRC made the regulation 80 assessments. 

Its main argument was that payroll costs should be calculated as 13% of turnover, with the gap between actual payroll costs and the 13% figure being accounted for by Johal’s unpaid work. 

PDG argued that Johal worked numerous unpaid hours in building up his business, and this had been misconstrued as undisclosed payments to off-record staff and unrecorded payments to existing staff.

Decision

While the first-tier tribunal (FTT) recognised that establishing a business often involves a significant time commitment with little remuneration, the evidence did not support a conclusion that Johal was doing the bulk of the manufacture of PDG’s product.

As Johal did not appear to have any background or experience in the manufacture of PDG’s products, the FTT found that others were employed to manufacture and fit the products. This meant the FTT did not accept the argument that the difference between the expected wage costs and the actual wage costs was explained by Johal’s unpaid work.

The FTT was satisfied that HMRC was entitled to adopt a best judgment basis when making the Regulation 80 assessments, and that its assessment was based on reasonable inferences.

As to the penalties for careless inaccuracies, the FTT noted that PDG had shown scant regard for producing reliable figures for any reporting. It was a prime example of careless behaviour.

The assessments and penalties levied by HMRC were confirmed and PDG’s appeal was dismissed.

Comment

There was an extraordinary lack of record keeping in this case. The FTT rejected the company’s submission that this was standard practice for small businesses. The judge commented that the company failed to comply with statutory obligations for companies and directors of companies.

Unfortunately, PDG’s woes aren’t over yet, as a further HMRC investigation is ongoing in relation to the company’s VAT compliance.