Tribunal slates composite umbrella company as tax device

A UKTECH reader has brought a recent Employment Tribunal decision to our attention. The case is particularly interesting with regard to its observations regarding a Government body's attitude to employment responsibilities and the use of composite umbrella companies as a means of mitigating IR35 liabilities.

For readers who are uncertain about what a 'composite' company is - it is a form of umbrella company, where each freelancer is a shareholder employee each owning their own class of shares. The company is usually set up and managed by a specialist financial services company or accountant who, in return for a fee (usually a percentage of the fees earned by each freelancer), handles the day to day management of the company including the accounting records, invoicing and payroll.

The management and accounts are structured so that there is a separate profit and loss account for each freelancer, which records that freelancer's fees and their own salary and expenses. This results in a profit for that individual freelancer, which is then paid out to the freelancer as a dividend – subject always to the need to provide for any additional PAYE and NIC that may be due if the freelancer's work is caught by IR35. which is

Background

The case in question is Mr S Osborne (applicant) versus (1) The United Kingdom Atomic Energy Authority and (2) Brookson Engineering (1622) Limited; heard at the Reading Employment Tribunal last autumn (decision issued January 2003).

Mr Osborne had worked as an electrician at the UKAEA since 1991 but had had little to do with the UKAEA as he was engaged on a separate project called JET, which was based on the UKAEA site but was separately funded by the European Commission.

However from January 2000, when the JET project ceased, he had continued to work at the site working for UKAEA. His services were supplied via an agency called Fircroft Engineering Services Limited, who initially was also a party to these proceedings until Mr Osborne withdrew his complaint against them in June 2002.

The details of the case are a little confusing. According to the judgement Mr Osborne's services since September 1999 had actually been supplied via an umbrella company called Dunham Management but this company had become insolvent. The judgement then notes that Mr Osborne had applied to be engaged via another umbrella company – Brookson, the second respondent, from March 2002. It appears that March 2002 is in fact an error and should read March 2000.

Briefly in 2000 Mr Osborne was paid via the Fircroft PAYE system before taking up shares in the Brookson company. The tribunal noted that Brookson used a strap line "the less taxing way to work" on their correspondence. There were contracts between Fircroft and UKAEA and between Fircroft and Brookson for the supply of Mr Osborne's services.

In the summer of 2001 Mr Osborne had raised issues about his rate of pay with the UKAEA comparing it unfavourably with other contract workers on the same site. UKAEA had responded that the question of the rate was not something they would discuss with him, as it was a matter for Fircroft to deal with. Then in late September Mr Osborne had an argument with his UKAEA supervisor as a result of which he had gone home on the advice of his union representative. On 27 September UKAEA issued a notice to Fircroft terminating Mr Osborne's engagement as from 5 October 2001 and Fircroft notified Brookson on 28 September.

Mr Osborne's representative wrote to UKAEA, Brookson and Fircroft in November 2001 asking for reasons for his dismissal under section 92 Employment Rights Act 1996. Fircroft replied that their contract was with Brookson and that the request should be made to Brookson. Brookson confirmed that Mr Osborne remained an employee of theirs and that therefore section 92 could not apply.

The issues

During the case various issues were raised – such as:

· Whether Osborne had any contract with UKAEA?

· Whether UKAEA exercised any control over Mr Osborne?

· Whether the fact that Osborne's contract with Brookson was never signed was relevant?

· Whether Osborne had any choice as to whether he worked via an umbrella company or as a PAYE employee of the agent, Fircroft?

· Whether there was any mutuality of obligation between Osborne and UKAEA?

The tribunal concluded that there was no mutuality of obligation between Osborne and UKAEA. Interestingly they accepted UKAEA's contention that they were not under any obligation to provide any set amount of work to Osborne and that he was not under any obligation to accept the work they offered. In the absence of sight of the contract it is not possible to comment further on this point but it seems unusual in the context of standard agency contracts that Osborne could be contracted on such a casual basis.

The tribunal also noted that, unlike UKAEA employees, Osborne did not receive holiday or sick pay, was not given access to the UKAEA intranet and was not required to sign the Official Secrets Act. They also decided that the only supervision exercised by UKAEA was in relation to the deployment of the task in hand and not how he did the work. Finally, as in the case of Hewlett Packard versus O'Murphy, the tribunal found that there was no contractual nexus between Osborne and the UKAEA.

They also agreed that Osborne was not an employee of Fircroft, who had no role in supervising and controlling him. In the view of the Tribunal Fircroft were in the "role of the classic employment agency supplying agency staff to a client" and that there "was no employment relationship there".

However, the Tribunal expressed surprise that while the other parties all went out of their way to deny any employment relationship with Osborne, Brookson "was keen to take on the mantle of employer in what the Tribunal regards as a legal fiction" even to the extent of making a guarantee payment of £85 to him in April 2002 in pursuance of the Employment Rights Act 1996.

However, while noting that this was only something an employer would do the Tribunal also noted that the finance director of Brookson admitted that he had nothing to do with Mr Osborne on a day to day basis in the 18 months leading up to the hearing and had no knowledge of what Mr Osborne did on a day to day basis.

Instead the Tribunal considered that Brookson was not the employer of Mr Osborne. It did not direct him in any way nor have any control over him and "In fact, it really had no knowledge of where he was". In a damning indictment of the role of such composite umbrella companies the Tribunal concluded that:

" the second respondent was an artificial device set up to facilitate the applicant and others to avoid legally the incidence of income tax and National Insurance which otherwise would have obtained"

While Osborne had argued that he had had no choice in the matter the Tribunal concluded that Osborne was well aware of the benefits of self employed and of the issues of IR35. They concluded that:

"The applicant cannot have it both ways. He cannot have the benefits of greater take home pay with self employment and then seek to change employment status when it suits him to launch Tribunal proceedings."

Government connivance in questionable employment practices

Finally, the Tribunal criticised the UKAEA for going along with such practices. It said in the final paragraph of its judgement:

"We would finally comment unfavourably that whilst the first respondent is a significant government organisation it appears to have truck with questionable employment practices involving thinly veiled attempts to avoid appropriate tax and national insurance……the situation probably first evolved from the first respondent's endeavours to rid itself of employer responsibilities and contract for its labour requirements through agencies.",

While this is only an Employment Tribunal judgement and sets no precedents it is, nevertheless, a strong indictment of both the role of Government bodies in using contractors to avoid employment responsibilities and a warning to those who use composite umbrella companies that Tribunals and the Courts may well dismiss them as artificial devices for tax avoidance.