Limited company contractors are not legally obliged to answer ‘yes’ to question 6, ‘Are you a service company?’, on the P35 Employer’s Annual Return, which is due to be filed with HMRC by 19 May 2012. Not only that, but HMRC is to issue guidance saying that if contractors are unsure of their position, they should answer ‘no’.
This is according to Atlas Chambers barrister Keith M Gordon, who successfully challenged HMRC over the legality of the question, as reported in Taxation magazine [subscription required].
Gordon first wrote to HMRC in Match 2012, in a letter he copied to Taxation, highlighting that there is no statutory basis for defining a service company and that nowhere in the current tax legislation does it require employers to answer question 6. “It must be the case that no employer need answer the question about service companies and any imposition on an employer to answer that question must similarly be ultra vires,” he said.
HMRC’s reply, also copied to Taxation by Gordon, confirmed his conclusions:
“I can confirm that regulation 73 of the income Tax (Pay As You Earn) Regulations 2003 (SI 2003/2682) does not specifically require the completion of question 6 in part 3 of the P35.”
HMRC went on to say: “…if employers are unsure of their position then they should answer “no” to question 6 of the P35. We will shortly be issuing guidance to this effect.”
Gordon’s conclusion from HMRC’s response is that “it is clear that no employer is under any legal obligation to answer the question [6].
“HMRC’s response would clearly suggest that all employers may legitimately and without fear answer the question in the negative irrespective of the actual facts of the case,” says Gordon.
He notes that one element of HMRC’s reply, when it says that “The question is included on the end-of-year return to support our processing systems, and is intended to facilitate the effective administration of the PAYE system”, may be “considerably more sinister”.
He continues: “The question is simply a fishing exercise and was introduced, at least partly, in the anticipation of Parliament reversing by legislation the 2007 decision in the Arctic Systems ‘income splitting’ case.”
As the P35 submission deadline is imminent, if HMRC is planning to release further guidance for contractors it would need to do so quickly. But, in the absence of additional guidance from HMRC, it would appear that contractors unsure of their status can safely answer ‘no’ to question 6 without fear of action by HMRC.