PAYE140015 - The PAYE discretion at s684(7A)(b) ITEPA 2003 and contractor loans avoidance schemes: contents: Category 1

Category 1: Considerations for offshore employer scheme used anytime and offshore trading income scheme used before 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

Before 2014, where there is an employment with an offshore employer (including trading income schemes where the agency rules apply), but the employee works for an entity based in the UK (the End Client), the Employee of non-UK employer rules may mean that the End Client could be required to operate PAYE in respect of amounts paid by the offshore employer to the employee directly or via a trust or other arrangement. 

From 2014, where there is an employment with an offshore employer, but the employee provides their services to an entity based in the UK (the End Client), the updated Employee of non-UK employer rules that apply from 2014 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 by the offshore employer to the employee.

However, where a scheme is used, the nature and operation of the scheme may therefore mean that it is reasonable to conclude that reasonable due diligence will be insufficient for the End Client (before 2014) or UK Agency (from 2014) to identify an obligation to operate PAYE.

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

Where a Category 1 scheme has been used, the following criteria may need to be met if an officer of HMRC is to consider exercising the PAYE discretion

  • the individual has used a scheme involving an offshore employer (including by virtue of the agency rules) or offshore entity, and
  • the amounts received by the individual may be taxable as employment income and, as a consequence, the PAYE Regulations may apply, and
  • HMRC has reason to believe the End Client (before 2014) or UK Agency (from 2014) exercising reasonable due diligence could not have been aware that they were required to operate PAYE

HMRC does not need to know the identity of the End Client or UK Agency to be able to exercise the PAYE discretion, provided HMRC has sufficient information about the way the scheme operates so that it is reasonable to conclude that the End Client or UK Agency was unaware of and not complicit in the avoidance arrangements.

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

  • that HMRC does not know about, or
  • have ceased to exist, or
  • where the evidence HMRC holds is such that it reasonably demonstrates an End Client or UK Agency exercising reasonable due diligence could not have been aware that they were required 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 either

  • a. the End Client (before 2014) or UK Agency (from 2014) was aware that the individual was using an avoidance scheme with an offshore employer, or
  • b. reasonable due diligence by the End Client (before 2014) or UK Agency (from 2014) should have meant that they were aware that the individual was using an avoidance scheme with an offshore employer and would have had sufficient information to determine they were required to operate PAYE

2. HMRC is aware the individual is, or immediately before joining the scheme was, a company director of the End Client (before 2014) or UK Agency (from 2014)

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

1. HMRC has sufficient information about how the scheme operated in order to determine that the scheme is a scheme involving an offshore entity and that the End Client (before 2014) or UK Agency (from 2014) might be liable to comply with the PAYE Regulations in relation to the individual’s employment income;

2. it is reasonable to conclude that the End Client (before 2014) or UK Agency (from 2014) was not party to the scheme, did not know that the individual was using the scheme to avoid tax on payments arising from the services carried out for the End Client and would not have known about the requirement to operate PAYE as a result of undertaking reasonable due diligence checks; or

3. the individual is, or immediately before joining the scheme was, a company director of the End Client (before 2014) or the UK Agency (from 2014)

As a guide, the following factors might be relevant in determining whether or not it is reasonable to conclude that the End Client could not have known about their obligation to operate PAYE

  • the existence of a UK intermediary independent of the agency or employer undertaking ‘typical’ intermediary activities e.g. payroll support/ invoicing functions.  It is reasonable to consider, in the absence of evidence to the contrary, that the intermediary can only supply the End Client with information relating to its functions/ services that it provides.  The intermediary is the person that the End Client typically has the contractual relationship with and, in consequence, one of the persons towards whom due diligence enquiries should be directed.  It may be reasonable to conclude, on the evidence HMRC has, that the intermediary cannot pass to the End Client any information on the arrangements as a whole and this will impact on the effectiveness of any due diligence enquiries undertaken by the End Client/intermediary; 
  • any connection (such as common directorship or shareholding) between the End Client and the scheme employer, promoter, or other scheme entity which could indicate awareness of or complicity in the scheme; 
  • any stipulation on the part of the End Client that the individual must provide his/her services via this structure, which might indicate a common interest in obtaining tax advantages from the arrangements.  This may support an officer in taking the view that, whatever responses were received from due diligence enquiries, the individual had no choice other than to use arrangements.   

As a guide, the following factors might be relevant in determining whether or not it is reasonable to conclude that the UK Agency placing an individual with an End Client could not have known about their obligation to operate PAYE

  • the presence of a UK ‘front’ intermediary who contracts with the UK Agency has set up separate UK bank accounts for all the different offshore employers they will invoice for
  • any correspondence or promotional material that suggests that the UK Agency has been led to believe that PAYE was operated elsewhere in the supply chain
  • other factors could include the involvement of a particular promoter of the avoidance scheme and any tax advice obtained.

It is possible that that there may be a connection (such as common directorship or shareholding) between the UK Agency and the scheme employer, promoter, or other scheme entity which could indicate awareness of or complicity in the scheme. If so, then the officer may conclude that the agency should have known about and complied with their PAYE obligations 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. 

Having established the facts it will be for the officer to take a view as to whether it is appropriate to consider using the PAYE discretion to determine that the End Client (before 2014) or UK Agency (from 2014) does not have to comply with the PAYE Regulations.  This view must be based on the particular circumstances of the case.