Employment Status and Tax Payments

An interesting case illustrates the dangers of getting wrong the employment status of people working for employers.

It involved a man who worked for an hotel and retired on his 65^th birthday. He was then retained on a ‘self-employed’ basis by the hotel. This arrangement continued for six years. The conditions of employment after his ‘retirement’ were arguably those of self-employment, but since they were essentially the same as those which existed beforehand, HM Revenue and Customs (HMRC) determined that he was still an employee.

Payments Made to Employee

In such cases, the payments made to the employee by the employer are treated as being net of deductions for income tax and employees’ National Insurance Contributions (NICs) and these are ‘grossed up’ for the deductions which would apply. Employers’ NICs are then due to be paid on the new gross amount. The employer is responsible for payment of the tax and NICs plus any penalties etc. which apply. In this case, an assessment was duly made, which totalled in excess of £15,000, based on an estimated gross salary averaging around £13,000 for each year.

The employee had, during the post-retirement period, prepared accounts as a self-employed person. His tax returns included the income from the hotel. He had filed these with HMRC, paying the tax etc. assessed.

Amended Tax Returns

You might assume that in such circumstances the employer would be given credit for the ‘self-employed’ income tax and NICs paid by the employee, but this is not the case. In practical terms, what happens is that the employee is allowed to make an ‘error or mistake’ claim and to submit an amended tax return. Despite the fact that the deductions from taxable income for self-employed people are much more generous than those for employees, a refund of income tax overpaid normally results for the employee. However, HMRC are under no obligation to take any account of the income tax and NICs paid by the employee in their dealings with the employer.

In this case, the situation had persisted for several years and the earlier years were ‘out of time’ for the submission of amended tax returns. As a result, the effect was that for those years the employee’s income tax was not recoverable and the employer had to pay the appropriate income tax under PAYE. Therefore, the same income was taxed twice.

This illustrates how important it is to make sure that the employment status of anyone working for you is unequivocal and especially that the employment status of anyone working on a ‘self-employed’ basis can be justified.