The Managed Service Company Legislation came into effect in 2007 at a time when the market was very different to the one we see today. Its original purpose was designed to prevent schemes being run by providers from manipulating IR35 rules and providing contractors with higher returns while making it difficult for HMRC to enforce regulations.
In HMRC’s paper on Tackling Managed Service Companies, it states: ‘MSCs are corporate structures through which workers provide labour services. In contrast to Personal Service Companies, workers in MSCs are almost invariably not in business on their own account and the underlying nature of the contracts in which they are involved is one of employment……..there are existing rules (the Intermediaries legislation) to ensure that the correct tax and NICs treatment is applied, but these rules are in the vast majority of cases not being followed by MSCs, which are therefore avoiding employed levels of tax and NICs.
Enforcing the current rules is difficult with MSCs because of the large and growing number of workers involved and the resource-intensive nature of the legislative test. Furthermore, even when a debt has been established as the result of an investigation by HM Revenue and Customs, MSCs can escape payment because they have no assets and can generally be wound up or simply cease to trade, with workers moving to a new MSC. The Government has therefore decided to remove MSCs from the scope of the Intermediaries legislation and to apply a tax treatment to those working in MSCs which means they will pay tax and NICs at the same level as other employees. Personal Service Companies will not be within the scope of these measures, with the Intermediaries legislation remaining in place as at present.’
So, this begs the question - is this still relevant today and does it serve its purpose or has time moved on and has the legislation been superseded?
The first point to consider is that in a post Off-Payroll Working market it is now the end clients who are required to make the status determinations on IR35, except those who meet the small company exception which is a very small percentage of the market.
With this requirement, a number of the principle arguments for the legislation have been removed:
- ‘there are existing rules (the Intermediaries legislation) to ensure that the correct tax and NICs treatment is applied, but these rules are in the vast majority of cases not being followed by MSCs’.
This is no longer the case as this assessment has now been passed up to the end clients and the result has seen a significant increase in workers operating through umbrella companies, creating a completely different set of problems.
- ‘Enforcing the current rules is difficult with MSCs because of the large and growing number of workers involved and the resource-intensive nature of the legislative test.’
Once again, this is no longer the case as enforcement is carried out at end-client levels making it far more efficient and cost effective. This has been demonstrated by the number of cases throughout Government Departments that have resulted in significant liabilities where the status determinations have been found to be incorrect.
- ‘Furthermore, even when a debt has been established as the result of an investigation by HM Revenue and Customs, MSCs can escape payment because they have no assets and can generally be wound up or simply cease to trade, with workers moving to a new MSC.’
As shown above, HMRC can make a recovery from the end clients, and these do not generally have the ability to just cease trading or be wound up, as in the case of larger clients, they will tend to have significant assets.
HMRC pursued a case which they won*. This case clarified a number of key points effectively defining the scope and interpretation of the legislation. This went beyond what many expected, and in many cases the scope that HMRC originally intended.
Since the introduction of The Managed Service Company Legislation we have seen the introduction of HMRC’s Making Tax Digital (MTD) initiative. The developments in the accountancy field to support their clients to meet the MTD requirements has seen many enhancements to accounting software packages, as well as new entrants into the market. These, in the main, are online offerings and work hand in hand with a client’s accountant.
When reviewing the MSC cases, as well as the many updates on HMRC’s website relating to MSC, starting at ESM3505 and covering 39 pages, it appears that any company that is marketing directly to contractors operating through their own limited company has a complex job to navigate these requirements whilst still being able to deliver a level of service that their clients would expect. Many of the complexities directly result from HMRC’s updates around making tax digital.
The complexity that now exists around the MSC Legislation and who is, and who isn’t an MSC Provider, makes it impossible for an individual tax-payer to make this assessment and they could easily find themselves suffering significant losses to their income under, what could best be described as technicalities of this complexity.
Current cases that HMRC are pursuing also provide a clue to this complexity supported by the length of time the cases are taking and the specialist law firms required to represent the clients, at very significant costs.
We can see that historically there was a need for the MSC legislation but time has moved on, the market has moved on, and the legislation has moved on; it is our opinion now that this legislation is surplus to requirements and is in danger of being used in ways never intended at its implementation.
With so much complexity in the tax system we believe removing this legislation brings a much clearer outcome when viewed in the round with all the other changes that have come in.
This is an easy win with little, if any, consequence and we would call on the current Government to engage in a review of its meaningful purpose with a view to removing this outdated legislation.
