Contractors' Questions: Is this new model of umbrella company safe?

Contractor’s Question: I’ve been offered a loan agreement method of pay from a freshly remodelled ‘umbrella company,’ whereby I would be paid the minimum salary and the rest would be in the form of a loan. Is this arrangement legitimate, frowned upon or likely to land me in hot water with HMRC?
 

Expert’s Answer: There are a number of issues with this type of arrangement. The first question to pose – is the proposed strategy technically sound?

The promoter should be able to demonstrate that the arrangement works as described. Can the promoter provide expert external support for its analysis of the tax consequences of the arrangement? This would usually be in the form of an “opinion” from a tax barrister or a technical note from a firm of chartered accountants.

Then, would you, the contractor, be comfortable in disclosing the arrangement to HMRC? This might indeed be a requirement under the Disclosure Of Tax Avoidance Scheme (DOTAS) regulations. The promoter should be able to provide a scheme reference number if the DOTAS regulations apply.

Contractors will be aware of HMRC’s attitude to tax and/or NIC avoidance schemes. Anyone using such a scheme must expect HMRC to review it with a view to challenging its efficiency before a Tax Tribunal (and potentially a higher court). Are you prepared for the legal and accountancy costs associated with such a challenge from HMRC? Will the promoter meet those costs (wholly or partly)? Also, we now have a General Anti-Abuse Rule within the UK tax code. While its operation hasn’t as yet been tested before the courts, it gives HMRC very wide powers to combat what it considers abusive arrangements.

The approach taken by HMRC is, in its own words, the following:

“It is important to appreciate that the GAAR is designed to counteract the tax advantage which the abusive arrangements would otherwise (i.e. in the absence of the GAAR) achieve. This means that it will usually be necessary to determine whether the arrangements would achieve their tax avoiding purpose under the rest of the tax code (i.e. the non-GAAR tax rules), before considering whether the arrangements are ‘abusive’ within the meaning of the GAAR. In practice HMRC expect to argue GAAR where it is appropriate to do so, at the same time as arguing other technical challenges that may be available as alternatives.”

Are other technical challenges, to use HMRC terminology, available? The provision of a loan to a director or employee is a taxable benefit-in-kind though loans of up to £10,000 are generally exempt. HMRC has had some success recently in arguing that loans were in fact taxable payments (for example in the Rangers case) though it is far from clear if this argument would apply to a loan from an umbrella company.

Potential users of tax avoidance schemes (and a deferral of tax falls within the scope of “avoidance”) must appreciate that there is a ‘war’ between HMRC and avoiders. And who gets killed in wars? Not the strategists, the generals, but the poor infantry!

The expert was Gerry Brown, technical manager of Tax and Trusts at Prudential plc.