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Intermediaries legislation (known as IR35) is the tax and National Insurance contributions legislation that may apply if you’re working for a client through an intermediary, for example your own Ltd Company.

If IR35 applies, all payments to the intermediary are treated as your employment income and the intermediary must pay any tax and National Insurance contributions due. It ensures that you pay roughly the same amount of tax and National Insurance contributions as if you’d been directly employed by the client.

The intermediary is always responsible for ensuring compliance with the IR35 legislation when it applies. As a director of your limited company or a member of your partnership, you must ensure compliance with all relevant legislation, and take responsibility for determining whether IR35 applies for each of your engagements or not.

There can be significant consequences of ignoring IR35 legislation. Interest and penalties may be charged on any additional tax and National Insurance contributions due as a result of an HMRC enquiry into your situation.


Managed Service Company

On 6 April 2007 Chapter 9 ITEPA, [Income Tax Earnings & Pensions Act] 2003, more commonly known as the Managed Service Company (MSC) legislation was introduced. MSC legislation applies to individuals providing their services through intermediaries which meet the definition of a Managed Service Company.

MSC legislation works parallel to IR35 legislation, creating a tax charge on income that derives from an employment. The MSC legislation replaces IR35 for the earnings of workers who provide their services via MSC’s.

MSC legislation is not intended to target small independent companies. If a contractor genuinely owns and manages a Limited company, they will not be affected.

An intermediary must consider whether the MSC legislation applies before considering IR35. Intermediaries that do not meet the definition of an MSC must continue to consider IR35.

What are the definitions of a Managed Service Company?

The definitions of an MSC are as follows:

  • A company whose business consists wholly or mainly of providing the services of an individual to third party clients.
  • The worker providing the services receives payments (including benefits) equal to the greater part of the consideration for the services he has provided.
  • The amount of the payments are greater than the worker would have received as an employee of the service-company, and an MSC Provider is “involved” with the company.


What is a Managed Service Company?

  • An MSC is typically controlled by an organization, known as a Managed Company Service Provider (MSCP). In simple terms, a business structure set up by third parties (e.g. Composite companies) or independent Limited companies who allow their corporate and financial responsibilities (e.g. control of business bank account) to be managed by third parties, will be caught by the MSC legislation.
  • In cases where an MSCP is “involved”, full PAYE tax charges will be levied on all earnings paid out. To be safely outside of MSC legislation and not therefore classed as a Managed Service Company, a Limited company must be able to demonstrate that their Directors have full control of the business direction of the company and must have complete responsibility/ownership of its corporate and financial management.

MSC legislation does not target Umbrella companies because all income is already subject to full PAYE and NI contributions before it is paid out to workers. Independent Accountants are not caught by the “involved” definition and can provide core accountancy and tax services to limited companies without falling foul of the new legislation.


Budget Note 66

Budget Note 66 (better known as BN66) is the mechanism by which the UK Government introduced clause 55 of the Finance Bill 2008, which would later become Section 58 of the UK Finance Act 2008. This specifically targeted tax avoidance schemes that made use of offshore trusts and double taxation treaties to reduce the tax paid by the scheme’s users. These schemes were heavily marketed to the freelance community after the introduction of intermediaries legislation known as IR35, as they appeared to offer more certainty concerning tax liabilities than would be the case if running a limited company.

In introducing S58 the Government retrospectively changed the law so that not only could these schemes not operate in future but they were effectively made unlawful from the day they were first introduced.

This is still being challenged by both the scheme providers and a contractor-formed group called No To Retrospective Taxation.



Otherwise known as the Disguised Remuneration legislation. Disguised remuneration tax avoidance schemes were historically used by employers and individuals to attempt to reduce the amount they had to pay in Income Tax and NIC’s on remuneration for employees and directors.

Disguised remuneration schemes came in many varieties, but generally involved the employer paying a contribution to a third party, which was often an Employee Benefit Trust (EBT), instead of paying remuneration directly to the employee.

The third party would then usually provide the money to the employee in the form of loans. These loans were often interest free and were provided on terms that meant that they would never be repaid during the employee’s lifetime. In other cases, instead of providing a loan, the third party would invest the money on behalf of the employee to be provided to them at a later date.

Users and promoters of these schemes believed that the overall effect of the arrangement was that no Income Tax or NICs was due and that there were Inheritance Tax benefits.

Arctic Systems Case

The Arctic Systems case was brought to the courts by HMRC; Jones v’ Garnett. The background to the case was that a Mr Jones was the sole director of a family company [Arctic Systems Ltd]. The shareholding of the company was structured by 2 shares; 1 in Mr Jones’ name and the other in Mrs’ Jones’ [His wife] name.

Mr Jones was in-fact the sole fee-earner, in his role as an IT Consultant; while Mrs Jones was tasked with the daily admin. The Jones’ took a minimal salary and extracted the majority of profits of the company via dividends. This model has always been the most tax efficient manner in-which to extract company profits and has always been considered as normal, basic tax planning.

In 2003 HMRC took a stance against this profit extraction model; [utilizing case precedence from 1930’] claiming that it amounted to tax avoidance. The claim was that by taking the minimal salary, this would leave the majority of the profits to be distributed by dividends and the fact that the spouse [Mrs Jones] was not the fee-earner; amounted to a “settlement” on Mrs Jones and therefore her income should be taxed as if it were Mr Jones’ income.

The net result was [using taxation rates of the time period] that HMRC claimed that the dividend tax should be 40% [against Mr Jones]; this would mean after taking the initial tax-free dividend allowance into consideration, there would be an additional circa 25% more due to the revenue.

There is an exemption from the “settlements” rules for “outright gifts” between spouses, but HMRC said it did not apply here because the exemption does not extend to gifts that are “wholly or substantially a right to income”, and they said that because Arctic Systems Ltd had no fixed assets (such as buildings or plant and machinery), a share in the company was “substantially a right to income”.

The Lords agreed with HMRC that by allowing his wife to subscribe for a share in the company for a nominal £1, when there was an expectation that the company would earn significant income, Mr Jones had made a “settlement” on Mrs Jones, but they absolutely rejected HMRC’s contention that this share was merely a “right to income” and confirmed that the exemption did apply.

Allowing your spouse to have a share in the family company on terms you would not extend to a stranger “at arm’s length” is a “settlement”.

Provided the share is an ordinary one (that is, it is not for example a “preference share” which is arguably only a “right to income”), the exemption for outright gifts will apply so that your spouse’s income will not be taxed on you.

In Arctic Systems, the Law Lords held that the ordinary shares provided to Mrs Jones were more than a pure right to income – they had a bundle of rights, including the right to attend and vote at general meetings, rights to capital growth on a sale, and to obtain a return of capital on a winding-up.

Dividend waivers can provide a legitimate way for one or more shareholders to waive their dividend entitlement to retain additional profits within the company. However, tax problems occur when waivers are used to distribute funds to shareholders on a “disproportionate” basis.

We have broadly concluded that the issue/transfer of ordinary shares to a spouse and the payment of dividends to them should be safe from HMRC challenge. However, this will not be the case where dividend waivers are used to provide a spouse with excessive dividends.

By this, we mean the payment of a dividend that exceeds a spouse’s pro rata dividend entitlement, based on the company’s distributable reserves.


  • Splitting income between spouses or civil partners can be an effective tax-saving device.
  • Ordinary shares as opposed to preferred shares will be classed as outright gift exemption.
  • Dividend waivers are allowable, as long as they are pro-rata to entitlement.


It must be noted that due to the 2016 dividend changes, the dividend sharing/income-splitting model, while still a legal way to operate; is obviously less attractive in a tax-wise aspect.


Employee Benefit Trust

As the names suggests, this type of trust structure is for the use of employers and employee’s.

The EBT model was widely used by contractors; throughout the early to mid – 2,000’s. For a number of years, these vehicles were very popular and 1,000’s of contractors took advantage of an EBT; either as an umbrella client, or via their own Ltd Company. The result was that as the loans were issued on commercial terms, the distribution of the trust funds did not trigger a taxable event and included an exemption from NI contributions.

Due to the popularity of the EBT structure, it was only a matter of time before HMRC decided that these employees were gaining a tax advantage and they [HMRC] would challenge the structure through the UK court system.

The first challenge was taken against a company called Dextra accessories [a brand of phones 4U]. It was decided in the House of Lords [HOL] that this type of Trust [EBT], with its source of funds linked to employment; would in future result in full taxation on all loans taken.

The next test case was Sempra Metals. The basic case was similar to Dextra; however the trust was used to reward employees with bonus’, using precious metals; which do not give rise to a to NI.

As the rule changes had been established in the Dextra case, the Sempra case had the same net result.

There is still much in the press till this day regarding the use of EBT’S; this is due to the fact that HMRC are still challenging schemes and their users back till the mid-to-late 2,000’s; even though the changes were implemented on the 10th December 2010; as set-out in FA2011.



The Dotas [declaration of Tax Avoidance Schemes] legislation was introduced in 2004. The aim of the legislation was to allow HMRC to have sight of all tax planning strategies, being promoted to the market-place.

In 2009/2010, the annual self-assessment form, included a tick-box, where the tax payer would indicate whether they were implementing any tax avoidance strategies, by-way of their SRN [Scheme Reference Number].

The use of the Dotas register, allows HMRC to quickly cross-reference exactly what type of tax planning is in place.



The accelerated Payments notice [APN], was introduced as a fast-track method for HMRC to obtain out-standing taxes [as calculated by HMRC]. The Reasoning for the instigation of the APN was that HMRC claimed that any disputes over alleged out-standing tax, were being stalled by the tax payer and as the treasury needed to up the tax take; they [HMRC] would notify the tax-payer of the outstanding sum and give 90 days for full payment. The 90 day cut-off automatically triggered a 5% levy; should the alleged sum still be out-standing.

In addition to the penalties, HMRC have the facility to retrospectively tax a contractor, either from the time they first used a scheme [or 2004], whichever is the most appropriate.

There are a couple of criteria needed for an APN to be issued against a structure/tax payer.

  • The tax strategy needs to have a Scheme Registration Number; issued under the Dotas.
  • If the scheme does not have Dotas status, then HMRC would need to have won a similar court case and would then be able to issue a follower notice; which would then lead to an APN.