Motion to Consider
My Lords, as both sets of regulations deal with national insurance contributions and arise from the changes made to the taxation and charging of national insurance consequent to changes made to the treatment of partnerships in the Finance Act 2014 and the National Insurance Contributions Act 2014, it seems sensible to debate them together. The Joint Committee on Statutory Instruments considered these regulations and has not raised any issues relating to them, and I can confirm that they are compatible with the European Convention on Human Rights.
I turn first to the Social Security (Contributions) (Amendment No. 5) Regulations. Section 13 of the National Insurance Act 2014 provides a power to make regulations to modify the way in which the liabilities of members of certain partnerships to class 4 national insurance contributions are determined. That section addressed an issue arising under existing partnership rules whereby the immediate entitlement to partnership profit is restricted by the alternative investment fund managers directive. Under existing partnership rules, tax and national insurance contributions are charged on profits as they are earned rather than when they are received. An unfunded NICs charge can therefore arise on profits that are allocated to an individual partner of an alternative investment fund management partnership and which are then deferred in line with the regulatory requirements of the AIFMD. This is because the partner cannot access the profits in the year they arise. Following discussions with fund sector representatives and the Financial Conduct Authority, the Government have put in place a statutory mechanism to address this issue. These regulations remove the charge to class 4 NICs when the profits are allocated to an individual but access is restricted under AIFMD, and reinstate the charge when those profits are eventually vested in the individual. As a result, the individual will be liable to pay class 4 NICs only when they have unfettered access to the profit. To ensure consistent treatment between NICs and tax, these regulations mirror income tax legislation.
Turning now to the Social Security Contributions (Limited Liability Partnership) Regulations, Section 14 of the National Insurance Act 2014 provides an express power to regulate to treat some members of a limited liability partnership who meet certain conditions as employed earners for NICs. Similar provisions treating these members as employees for income tax purposes can be found in the Finance Act 2014. Previously, all members of an LLP were treated for tax and national insurance contributions as self-employed. They benefited from the tax and NICs rules for the self-employed and the LLP did not have to pay employer’s NICs.
The treatment of members of LLPs as being self-employed for tax and NICs was designed to replicate the position of traditional partnerships. However, LLPs have increasingly been used to disguise employment relationships and to avoid accounting for employment taxes and NICs. The new measures in these regulations and the Finance Act ensure that the original intent—that of treating members of a LLP the same as traditional partnerships—is not used to create a tax and NICs advantage. They create a level playing field for those who have not sought to misuse the rules for a tax and NICs advantage and those who have.
When certain conditions are met, a member of an LLP will be treated instead as an employee for the purposes of NICs. Broadly, that means that they will have employee NICs deducted from payments to them and the LLP will have to account for employer NICs and assume the other responsibilities arising from being the secondary contributor. The conditions were introduced by the Finance Act 2014, and are that the individual member of the LLP has little or no real economic interest or risk in the LLP, no significant influence over its affairs, and is largely rewarded by a fixed salary. During the course of the consultation in 2013 and 2014, HMRC became aware of proposals to create structures with corporate members to avoid the impact of the proposed changes. The proposals involved the individual establishing a personal service company or other intermediary and that intermediary becoming a member of the LLP in place of the individual. These regulations contain measures to counteract the artificial interposition of a company or other intermediary to avoid the impact of the legislation.
The regulations apply where the new tax provisions apply and an individual salaried member of an LLP is treated for income tax purposes as an employee of the LLP under a contract of service. For the purposes of NICs, the salaried member is treated as an employee and their income is treated as earnings, and the benefits in kind regime applies to them. As the salaried members are treated as employees for the purposes of employee NICs, the LLP is treated as an employer for NICs purposes and must account for employer NICs. The employer as secondary contributor is also responsible for statutory sick pay, statutory maternity pay, statutory paternity pay and statutory adoption pay. These regulations provide that the LLP will be responsible for these statutory payments in respect of salaried members.
As I have mentioned, HMRC became aware of schemes to avoid the impact of the Government’s partnership proposals. The tax legislation to prevent such avoidance provides that where an individual provides services to the LLP through an arrangement involving a member of the LLP who is not an individual—generally a personal service company—the individual providing the services is then treated as a salaried member. So an individual cannot sidestep the impact of these measures by interposing a company or other intermediary between themselves and the LLP. These regulations ensure that where the tax anti-avoidance measure is in play, the like NICs consequences will follow.
To avoid a double charge arising where the anti-avoidance measure applies and the intermediaries legislation, commonly known as IR35, also applies, the regulations in respect of IR35 are modified so that only one charge under these regulations can occur. To ensure consistent treatment for NICs and income tax, these regulations mirror the tax legislation, relying on mirroring definitions. These provisions are part of a package of tax and NICs measures that will yield £3.2 billion over the period to April 2019. The regulations contain mirror provisions applying to Great Britain and to Northern Ireland.
I commend the statutory instruments to the Committee.
My Lords, I thank the Minister for introducing these regulations. I am reverting to dealing with Treasury matters today because my noble friend Lord Tunnicliffe is in the Chamber.
As the Minister explained, these regulations spring from a review of the taxation liabilities of partnerships, and elements of avoidance related to the conversion of employment income into self-employment income, particularly regarding mixed partnerships, with individuals and corporates, and the allocation of profits and gains on a favourable basis. I should make it clear that we support the tackling of such avoidance; it is absolutely right that we do so.
The Explanatory Memorandum to the second set of regulations made reference to estimated,
“tax and NICs revenue of £3.27 billion over the forecast period to 2018-19”.
In the light of tax receipts to date, will the Minister comment on how robust that figure is and whether there is a revision on the cards? Unless he can respond, we may have to wait for the OBR report in a few weeks’ time.
As I said, we support the principle of those with disguised self-employment income being treated as employees for both income tax and national insurance purposes. Can the Minister say a little more to clarify the precise circumstances under which these provisions will apply? I looked at the summary of responses in HMRC’s document, Partnerships: A Review of Two Aspects of the Tax Rules. Pages 11 and 12 set out the Government’s proposals for when the rules would apply, and state:
“Where all of new conditions A to C (as set out below) are met, then with effect from 6 April 2014”—
I note that these measures are retrospective, and we support that—
“an individual member of an LLP will be treated as an employee of the LLP for tax and NICs purposes”.
Condition A then states that,
“the member is to perform the services for the LLP in his or her capacity as a member, and is expected to be wholly or substantially wholly rewarded through a ‘disguised salary’ that is fixed or, if varied, varied without reference to the profits or losses of the LLP”.
That is one of the three tests, and I understand that all three must be satisfied. If that is one of the planks that the Government are moving forward on, it would not be too difficult to circumvent and seems somewhat flimsy.
Condition B in the Government’s response is that,
“the member does not have significant influence over the affairs of the partnership”.
I wonder about the extent to which that condition reflects what happens in lots of partnerships at the moment. I remember being, in a former life, a partner in Price Waterhouse, but as a new equity partner, with another 120 partners at the same time, frankly one’s influence over the business was quite small. A lot of these partnerships have grown much broader in the intervening years. I would have thought it quite likely that someone who is a genuine equity partner does not have significant influence over the affairs of the partnership. Collectively, equity partners do, but individually they do not. Perhaps the Minister will help us with that.
Will he also say something about the territorial aspects? The regulations refer to partnerships that are constituted under UK law and, clearly, that are operational in the UK. What happens to partnerships that are constituted under the rules of a territory outside the UK?
Do any other consequences flow from treating income as employment income? The Minister referred to statutory payments, but there are issues around employment rights and health and safety. For example, there are some changes in legislation that are looking to exempt a huge swathe of the self-employed from the Health and Safety at Work etc. Act. Would that continue to apply to people who purport to be self-employed, notwithstanding that they are being treated as employed for the purposes of tax and national insurance contributions?
I move briefly to the regulations that relate to the AIFM arrangements. As the Minister explained, these apply to class 4 self-employed contributions. What is the situation of somebody who is treated as an employed person under the other regulations? How does this work for such people? That is very unclear. The regulations seem to focus just on class 4, which presumably applies only to those who have deferred income arising and are accepted as being genuinely self-employed, and not to this other category, which we are seeking to address in the other regulations. I must say, I am a little confused about how that works.
Paragraph 4.4 of the Explanatory Memorandum refers to class 4 contributions applying when profits,
“vest in the individual partner, if that partner is carrying on the AIFM trade at the time of the vesting”.
What if the individual is not carrying on the trade at the point of vesting? I am not sure technically how that would work, but clearly the Explanatory Memorandum recognises that it is a possibility. When does class 4 bite in those circumstances?
I should be grateful for the Minister’s help on those points, in follow-up if not here today. Clearly, we have no problem with these regulations and we support the thrust of the anti-avoidance provisions that they seek to address.
I am most grateful to the noble Lord for his support for these SIs and for his questions. On his first question about the revenue of £3.2 billion, the formal answer is, of course, that as this has just started and is looking at the period to 2018-19, it is far too early to tell. To the extent that there has been any weakness in income tax receipts, it is due to shortfalls in income from people at the lower end of the income spectrum. These people are definitely not there. Given that the sector we are talking about is doing pretty well at the minute, there is certainly no reason to think that that figure is unlikely to be met.
The noble Lord asked about the territoriality of the measure. My understanding is that it applies to UK-constituted partnerships only. He asked about the conditions, of which there are three. Condition A is that reward is largely fixed. The use of “largely” simply allows for small variations to take place but for an individual still to fall within that condition. As regards exactly what is meant by the second condition, HMRC has issued detailed guidance, which was written following extensive consultation and discussion with the sector.
I am sure that I have not responded to one or two points and I am very grateful to the noble Lord for being willing to accept a letter dealing with those remaining points. With those responses to the noble Lord’s comments, I commend the regulations to the Committee.