HMRC warns workers about ‘surprise’ tax rule that could cost ‘hundreds of thousands’ | Personal Finance | Finance

HMRC has issued new guidance to warn freelancers, contractors and consultants about the risk of “Managed Service Companies”, which could land thousands with huge tax bills.

The Managed Service Companies (MSC) legislation was introduced in 2007 to combat perceived tax abuse by freelancers who provide their services through a limited company set up for the purposes to avoid tax.

These companies, which are controlled by a third-party, are known as Managed Service Companies.

HMRC believes that freelancers shouldn’t receive the tax benefit of running their own business if the business itself is managed by another party – often an accountant – and is only used as a vehicle through which to pay less tax.

If a freelancer’s business is deemed to be an MSC, HMRC will insist that all income generated is subject to PAYE tax and National Insurance.

After tax, interest and possible penalties, this could equate to 40% of income earned by the MSC since its formation.

Over 1,000 contract workers are currently under investigation in an ongoing MSC case, with HMRC alleging they have breached the legislation.

Seb Maley, CEO of tax compliance expert, Qdos, commented: “HMRC is right to put the MSC legislation back on the radar of the hundreds of thousands of contract workers it can impact.

“These notoriously complex tax rules can leave freelancers with staggering tax bills, often through no real fault of their own. All too often, these unsuspecting freelancers have been advised to work via MSCs by third parties.”

Of the 100-plus that Qdos is supporting, the average tax liability pursued by HMRC stands at £57,000 and collectively at £5.9m.

Mr Maley continued: “With a major case yet to be closed, it’s no secret that HMRC believes many freelancers have been or are currently working through MSCs – much to the surprise of these freelancers, I should add.

“The trouble with these rules is that freelancers caught up in MSCs aren’t motivated to avoid tax. Typically, they will have engaged an accountant that specialises in their industry and in forming limited companies.”

He added: “It smacks of unfairness, but the fact of the matter is that if you fall into the trap of working through an MSC, the tax office could well demand up to 40% of everything you’ve earned through your company to date.”

To help contract workers spot a possible MSC, Mr Maley provided four red flags, which include:

• The third party (known as the MSC Provider) benefits financially on an ongoing basis from the services you provide. This refers more to fee structures based on your income as opposed to your repeat business.
• The MSC Provider influences or controls how you provide your services.
• The MSC Provider influences or controls how you receive payment.
• The MSC Provider influences or controls your company’s finances or any of its activities.