Managed Services for Contractors

Latest News - read our guide to converting from a MSC to a PSC here

Visit our main PSC site for contractors and freelancers, here

Garbetts specialise in the affairs of Personal Service Companies and Contractors.

An alternative to having your own PSC is to use an umbrella or composite company.

Garbetts do not offer services of this nature. Following the MSC rules enacted in the 2007 budget, following on from the announcements in the December 2006 pre budget, MScs are likely to be detrimental tax wise to anyone other than a fully caught by IR35 contractor with low expenses.

The December 2006 announcement is below. When enacted in the 2007 budget there were some changes in definitions, but the principles remain the same:

PN03 "Ensuring Fairness for All Taxpayers" - "Managed Service Company Schemes"

"Managed Service Company Schemes

"The Government is taking action to tackle Managed Service Company (MSC) schemes which are used to avoid paying employed levels of tax and NICs. Income received by workers in MSCs in relation to services provided through the MSC will be subject to employed levels of tax and NICs, with the MSC obliged to operate Pay As You Earn (PAYE) and deduct tax and Class 1 NICs on that income - and the rules for tax relief for travel expenses will be the same as for other employed workers. The Government will also address the problem of MSCs escaping payment of tax and NICs due by allowing the recovery of these debts from appropriate third parties.

"This will protect the Exchequer and ensure a level playing field for compliant businesses and workers. The Intermediaries legislation will remain in place for Personal Service Companies.

"The Government is consulting on the draft legislation to implement this measure. The draft legislation and questions for consultation are set out in the consultation document Tackling Managed Service Companies, published alongside the Pre-Budget Report today"

Managed Service Companies encompass Umbrella Schemes, Composite Schemes and various hybrids. It looks very much as if these are now going to be PAYE only, which means most contractors will be better off working with their own PSC (personal service company) and endeavouring to operate outside of IR35.

The Managed Company Sector has got a bad name over recent years due to abuses of the employment expenses regime (primarily for travel and subsistence) and abuses such as sponsoring schemes where employers have "forced" staff into such arrangements, resulting in losses of employment protection.

As the budget press release suggests, more information is awaited, so check back here for regular updates.

The actual consultation document is at http://www.hm-treasury.gov.uk/media/53E/48/pbr06_managedservicecompanies_453.pdf

These comments follow on from the Spring 2006 budget, where it was announced that HMRC are looking at ways of regulating the providers of Composite and Umbrellas companies. In the budget report, Chapter 5, "Building a fairer society", page 20, items 5.85 and 5.86, we read:

5.85 Since the Pre-Budget Report, further evidence has emerged that employment income is being disguised as dividends in order to take advantage of the small companies' tax rate, often encouraged by promoters of mass- marketed managed service company schemes. There is also evidence of some agencies, contractors and employers requiring workers to use corporate structures, thereby denying them employment rights as well as avoiding paying their fair share of tax and NICs.

5.86 The Government believes that all individuals and businesses must pay their fair share of NICs and tax, irrespective of legal form. It will continue to review the tax and NICs systems to ensure that this is the case and will bring forward proposals for discussion that are consistent with simplicity for compliant businesses, support for businesses in their aspirations to grow and maintaining the attractiveness of the UK as a business location. As the first stage of this review the Government will consult on action to tackle disguised employment through
managed Tax motivated incorporation."

Garbetts have always been sceptical about mass marked arrangements, which normally centre around Composite Companies (Composite Companies are not mentioned in the budget extract as they have no legal definition, but that they are the target of these comments is quite clear). Our scepticism is around to lack of commerciality to many Composite arrangements, particularly the "sharing" and supposed "co management" of a Composite Company by shareholders who've never met each other! This is why our own service portfolio hasn't included such arrangements to date.

I AM USING AN UMBRELLA / COMPOSITE - WHAT SHOULD I DO IN LIGHT OF THE 2006 PRE BUDGET REPORT?

For now, probably nothing, however over the next few months if you want to maximise your tax position you will need to think about opening your own company. You can get guidance and help on this from our PSC Microsite.

If you are just starting contracting, then its probably best to give Umbrellas, Composites and any other similar arrangements a miss.

Over coming months we will be refining our current portfolio of services for PSCs to include a new higher tier of service that will provide a lot of the administration services that a managed company would have provided, making it as easy as possible for people to have their own PSC and operate legitimately.

UMBRELLAS, COMPOSITES AND MANAGED COMPANIES - SOME DEFINITIONS

Historically umbrella companies have offered a simple service of invoicing your agent/client, collecting your contract income, processing expense claims, deducting tax and NI from contract income after expenses and the umbrellas fee and then paying you under PAYE. They may also offer services such as pensions and life insurance. They are not particularly tax efficient, as all income is distributed under PAYE, but are quite simple for the end user. They tend to be fairly expensive in terms of running costs compared to the accountancy costs of running a PSC.

Composite companies are a company shared by a number of contractors. They have very similar characteristics to umbrellas, but are considered more tax efficient as they allow dividends.

Using a narrow definition managed service companies are a cross between a traditional Personal Service Company and a Umbrella / Composite. They are similar in many respects to a traditional PSC, particularly in the allocation of one contractor to a company as opposed the sharing of a company by different shareholders in a composite company. However unlike a traditional PSC where the contractor is director and responsible for running the company, maybe engaging a accountant to assist, with a managed PSC the provider (normally an accountant) provides the director and undertakes all the management work.

However using a broad definition, which the Treasury is using in commentary above, MSCs encompass Umbrellas, Composites and hybrids.

The differences between MSCs, composites and umbrellas are slight, and often the definitions overlap.

Some of the variations purport to offer IR35 efficient ways of working, or magic "avoid IR35" solutions; they should be avoided as, generally speaking, these claims are false. HMRC have certainly indicated that they consider such claims dubious and that such schemes are going to be high up their investigation and enquiry list.

Also to be avoided are providers who offer excessive "tax free" expenses. This is normally sales talk, and at best you'll find these expenses aren't available in practice, at worst the provider will let you claim them unwittingly and then you'll get a tax enquiry and back tax bill in some years time. Contrary to the claims of some providers the same tax regime applies to all business entities, including PSCs, Umbrella Companies, Composite Companies and every other general company. The "dispensations" that are referred are simply for reporting purposes, and do not grant a general right for a company to pay tax
free expenses without evidence of the expense bring incurred.

Garbetts Chartered Certified Accountants

E-mail: office@garbetts.com

Arnold House, 2-6 New Road, Brading, Isle of Wight, PO36 0DT.
Telephone: 01983 400350. Facsimile: 01983 404016.