[2011] UKFTT 114 (TC)

TC00990   

   Appeal number TC/2010/08476

Construction industry scheme -- withdrawal of gross payment status -- cashflow difficulties - whether reasonable excuse -- held yes

FIRST-TIER TRIBUNAL

TAX 

	KEITH JOSEPH-LESTER
	t/a SCAFFOLD ACCESS SERVICES	Appellant

	- and -

	THE COMMISSIONERS FOR HER MAJESTY’S
	REVENUE AND CUSTOMS	Respondents

				TRIBUNAL: Anne Redston (Chair)
						Julian Sims

Sitting in public at the Southampton Appeals Service, 83-85 London Road, Southampton on 19 January 2010

The Appellant appeared in person

Ian Compton, Appeals and Reviews Unit, HM Revenue and Customs, for the Respondents 

© CROWN COPYRIGHT 2011

DECISION

1.	Mr Joseph-Lester is a contractor operating within the construction industry. This is his appeal against the decision of HMRC to withdraw his gross payment status within the Construction Industry Scheme (" the Scheme "). 
The Construction Industry Scheme and relevant legislation
2.	The background to the Scheme is well known. It was introduced in 1975 to counteract perceived evasion of tax by self-employed workers in the building industry. Under the Scheme, a person making payments to a subcontractor is obliged to withhold income tax from the payment, unless HMRC registers the contractor for gross payment. 
3.	The current version of the Scheme is set out at FA 2004, ss 58-63 and Schedule 11 of that Act, together with the Income Tax (Construction Industry Scheme) Regulations 2005 (“the Regulations”). These set out prescribed criteria under which HMRC must register a contractor for gross payment, while FA 2004, s 66 allows HMRC to withdraw gross payment status. 
4.	Section 66 provides, so far as is relevant :
(1)   The Board of Inland Revenue may at any time make a determination cancelling a person's registration for gross payment if it appears to them that—
(a)   if an application to register the person for gross payment were to be made at that time, the Board would refuse so to register him,
(b)   he has made an incorrect return or provided incorrect information (whether as a contractor or as a sub-contractor) under any provision of this Chapter or of regulations made under it, or
(c)   he has failed to comply (whether as a contractor or as a sub-contractor) with any such provision.
(2)   Where the Board make a determination under subsection (1), the person's registration for gross payment is cancelled with effect from the end of a prescribed period after the making of the determination (but see section 67(5)).
5.	The obligations with which a contractor is required to comply in order to be registered under the Scheme include those set out at FA 2004, Sch 11 para 4, the relevant parts of which provide that:
(1)	The applicant must, subject to sub-paragraphs (3) and (4), have complied with—
 (a)	all obligations imposed on him in the qualifying period (see paragraph 14) by or under the Tax Acts or the Taxes Management Act 1970 (c 9)…
(b)	…
(2)	…
(3)	An applicant or company that has failed to comply with such an obligation or request as—
(a)	is referred to in sub-paragraph (1), and
(b)	is of a kind prescribed by regulations made by the Board of Inland Revenue,
is, in such circumstances as may be prescribed by the regulations, to be treated as satisfying the condition in that sub-paragraph as regards that obligation or request.
(4)	An applicant or company that has failed to comply with such an obligation or request as is referred to in sub-paragraph (1) is to be treated as satisfying the condition in that sub-paragraph as regards that obligation or request if the Board of Inland Revenue are of the opinion that—
(a)	the applicant or company had a reasonable excuse for the failure to comply, and
(b)	if the excuse ceased, he or it complied with the obligation or request without unreasonable delay after the excuse had ceased.
6.	The ‘qualifying period’ referred to paragraph 4(2) above is defined as the period of 12 months ending with the date of the application in question’ (FA 2004, Sch 11 para 14).
7.	The circumstances in which the individual will be treated as satisfying the compliance test under paragraph 4(3) above are set out at paragraph 32 of the Regulations. The relevant provision for Mr Joseph-Lester’s case is that relating to late payments of PAYE, which states that late payments will be disregarded if:
(1)		Payment is made not later than 14 days after the due date, and
(2)		the applicant or company—
(a) 	has not otherwise failed to comply with this obligation within the previous 12 months, or 
(b) 	has failed to comply with this obligation on not more than two occasions within the previous 12 months.
8.	The deadline for PAYE payments is the 19th of each month, but a further three days is provided for online payments (Tax Bulletin, February 2004). This extends the tolerance in the regulations to 14 days after 22nd of each month, providing either condition (a) or (b) are met. 
9.	HMRC’s internal guidance (at CISR46600) was provided to the Tribunal. This lists the compliance failures which HMRC “cannot overlook” in the absence of a reasonable excuse. These include:
(1)	Four or more late payments of PAYE deductions of £100 or more up to 14 days late.
(2)	Any payment of PAYE deductions made later than 14 days after the due date.
The Facts
10.	A bundle of documents was admitted in evidence. In addition, Mr Joseph-Lester gave oral evidence. The Tribunal found the following facts.
11.	Mr Joseph-Lester is a scaffolding contractor in Southampton. His major clients are public bodies, especially the Ministry of Defence (MoD), which has historically provided around 25% of his work. 
12.	He has a number of lorries and a vehicle operator licence. One of the conditions prescribed by the Vehicle and Operator Services Agency (“VOSA”) for the retention of a vehicle operator license is that the operator has to be able to demonstrate financial reserves. These are calculated based on the number of lorries. Mr Joseph-Lester had an overdraft facility for this purpose. 
13.	At the beginning of 2009, the facility was for £30,000. Of this, around £14,000 represented the amount Mr Joseph-Lester was required to hold under his operator’s license. The business accounts show that as at 31 October 2008, no money was borrowed against this facility.
14.	In January 2009 there was a sharp downturn in the construction market. The MoD stopped engaging contractors virtually overnight and there was a very significant reduction in other construction work. Many customers delayed payments for work already completed. Those who had previously paid reliably after 30 days, began extending their credit to 60-70 days. Mr Joseph-Lester’s cashflow came under great pressure. He had fixed salary costs, and also had to buy fuel in order to remain in business. 
15.	His first reaction to the downturn was to utilise the balance of the overdraft facility. On 27 January 2009 the overdraft had reached £7,577. His January PAYE payment of around £3,000 was due on 22 February. On Friday 20 February his overdraft had reached £13,929 and by Monday 24th February £15,690. 
16.	By Friday 13 March the overdraft was £20,599. On Monday 16 March he received income of £9,166. He paid the January PAYE the following day using his credit card. We have called this ‘the first failure’. 
17.	The PAYE for February was due on 22 March. On Monday 23 March the overdraft was £14,559. The PAYE was again paid by credit card, being received on 1 May 2009. This was the second failure. During this period the bank balance fluctuated but the average balance was around £13,000, with a low of £7,908 on 2 April and a high of £17,426 on 20 April. 
18.	The PAYE for March was due on 22 April and was received on time. It was thus paid before the PAYE due for February.
19.	The April PAYE was due on 22 May, and was paid on 24 June, again by credit card. This was the third failure. On 21 May the bank overdraft was £14,206, on 28 May (following payment of staff salaries) it had risen to £21,172 and by 8 June to £25,579. 
20.	At or about this time, Mr Joseph-Lester contacted VOSA and asked if it was possible to use his credit card to provide the financial facility required by his operator’s licence, and they agreed to this. That allowed him to use the balance of the overdraft facility to, as he put it, “keep his business afloat”. 
21.	The May PAYE payment was due on 22 June, two days before he settled the April payment by credit card. His overdraft on 22nd June was £21,864. On 6 July it had risen to £28,869, was reduced when a payment from a customer for £12,822 was received on 7 July, but went back up to £22,257 on 9 July after paying his staff. The PAYE was paid on 22 July by credit card. This was the fourth failure. 
22.	The June PAYE payment was due on 22 July, the date his May payment was actually made. His overdraft exceeded £28,000 at the end of July but was reduced to £15,643 by the receipt of three sums between 10-13 August. The outstanding amount was received by HMRC on 13 August. This was the fifth failure.
23.	The September PAYE payment was due on 22 October. On 21 October the overdraft had reached £29,076. Money was paid into his account on 2, 3 and 6 November and a further sum of £5,380 on 9 November. HMRC received payment on 10 November. This was the sixth failure. 
24.	These six failures were not in dispute. In addition, HMRC had recorded that the payments due on 22 August and 22 December were received one day late; that the payment due on 22 November was received three days late and that due on 22 August was four days late. Mr Joseph-Lester said that he believed they were sent in time. Mr Compton said that HMRC would not be seeking withdrawal of gross payment status on the basis of these defaults. The Tribunal thus makes no findings in relation to these four payments. 
25.	The business accounts show that staff wages paid had reduced from £198,187 in the year to 31 October 2008 to £157,400 in the year to 31 October 2009, a fall of £40,787. 
26.	The average monthly salary payment for the year to 31 October 2009 was thus £13,000. 
27.	The overall result for the year to 31 October 2009 was a loss of £34,560 compared to a profit the previous year of £77,319. The accounts also show that Mr Joseph-Lester’s own drawings for the year dropped from £52,695 to £19,473, a reduction of 63%. 
28.	By letter dated 4 February 2010 HMRC informed Mr Joseph-Lester that they were withdrawing his gross payment status. 
The Appellant’s submissions 
29.	Mr Joseph-Lester submitted that he had a reasonable excuse for late payment. Until the sudden downturn his business contracted for 2-3 new engagements a week; in particular, there was a regular flow of work on MoD sites, for which he was a preferred supplier and in which he had specialised. Overnight this work was cut off: the business had not gone to competitors, but rather permission for all repair work had simply been cancelled. He had sought replacement contracts but his other customers and potential customers (such as hospitals and schools) were also under financial restrictions.
30.	He said that, faced with the unexpected contraction in his customer base, he had done his best to manage his cash flow while still keeping his business running. In order to run the business he had to pay his staff on a weekly basis because he engaged them as employees and not as subcontractors. He had cut his staff costs, but this isn’t easy to do quickly. 
31.	While it was possible to look at the bank balance on a particular day and see that there might appear to be £3,000 of capacity to pay the PAYE, he said that had also to look ahead and make sure he could pay his fuel and wages as they fell due, as otherwise the business would cease altogether. 
32.	He told the Tribunal that he had done all he could to increase the cashflow - first he had used the part of the overdraft not required by VOSA, then he had delayed paying creditors for goods and materials, and had renegotiated payment terms with them; he had repeatedly pressed his debtors for payment and had also used his credit card to create extra borrowing. He then thought of asking VOSA if they would accept a credit card as a facility, and when they agreed, he used the balance of the overdraft as further cashflow for his business. During this time he had also made redundancies and reduced his staff numbers.
33.	The overdraft was, he said, the maximum the bank would provide, and he had had to field several calls from them as he twice exceeded the overdraft limit of £30,000. They had threatened to bounce his cheques if he didn’t stay within the limit. He had cut back his own drawings so he was living on a fraction of his previous earnings and that was making his life very difficult. It was, he said, an ‘extremely severe time’. 
34.	He told us that the business had survived and now had a good pipeline of scaffolding work. But if he lost gross payment status, life would be extremely hard for him. He would have to meet his costs out of 80% of turnover (as the balance would be retained by the contractor) and the cashflow would be very very difficult. His customers might move to other suppliers where they didn’t have to bother with the CIS regime, but could pay gross. 
35.	He concluded by saying that he couldn’t have done any more to manage the cashflow and he knew that HMRC had to be paid and did so as soon as he could; he looked for and found as many ways as he could to stretch his cashflow.

HMRC’s submissions
36.	Mr Compton provided a very helpful skeleton argument. He said HMRC did not dispute the factual scenario, noting that HMRC had been previously unaware of the VOSA requirement, and that this information might have influenced their view on reasonable excuse. 
37.	However, he reminded the Tribunal that this case involved a substantial number of late payments. It was not a question of a single isolated incident. None of the disregards in the Regulations applied to the failures. It was also important to be fair to other taxpayers, so that gross payment status should be withdrawn if the statutory requirements were not met, unless a reasonable excuse could be demonstrated;
38.	When considering whether cashflow difficulties were a reasonable excuse, he invited the Tribunal to follow Steptoe v R&C Commrs [1992] STC 527 (“Steptoe”); the taxpayer thus had to demonstrate an ‘unforeseen or unexpected event’; he submitted that a general economic downturn such as that experienced by Mr Joseph-Lester was not such an event. 
39.	He said that Mr Joseph-Lester could have asked the HMRC payment support service for Time to Pay Agreement had he been suffering cashflow difficulties. The Tribunal notes that Mr Joseph-Lester was surprised to hear of this service; his response to Mr Compton’s submission was that he was “completely and utterly unaware” of its existence, but that had he known of it, he would have used it. 
Proportionality and discretion
40.	The Tribunal asked Mr Compton if HMRC had any submissions on the proportionality of withdrawing gross payment status. In response he said that in HMRC’s view, proportionality was not something the Tribunal could take into account in considering Mr Joseph-Lester’s position. 
41.	The Tribunal also asked if HMRC wished to make any submissions on the issue raised in the decision of this Tribunal in John Scofield v The Commissioners for HM Revenue and Customs TC 00659, namely whether section 66 Finance Act 2004 confers a discretion on HMRC whether to withdraw gross payment status. Mr Compton submitted that HMRC had no discretion. 
42.	In summary, it was HMRC’s case that both the Tribunal and HMRC could only consider whether or not Mr Joseph-Lester had a reasonable excuse for the failures.
The decision
43.	It was clear on the facts that the disregards in the Regulations did not apply to the failures. Mr Joseph-Lester’s case was that he did not have the funds to pay the PAYE by the due dates. The Tribunal thus considered whether insufficiency of funds constituted a reasonable excuse for his failures. 
44.	In deciding this question the Tribunal followed the approach taken by the Court of Appeal in Customs & Excise Commissioners v  Salevon (1989) STC 907 per Nolan LJ, in Steptoe at 770p per Donaldson MR, and recently followed by Sir Stephen Oliver QC in Stephen Mutch v Revenue & Customs Commissioners [2009] UKFTT 288(TC). 
45.	The approach requires the Tribunal to take for comparison a person in a similar situation to that of the actual taxpayer who is relying on the reasonable excuse defence. The Tribunal must then ask itself - with that comparable person in mind - whether, notwithstanding that person’s exercise of reasonable foresight and of due diligence and a proper regard for the fact that the tax would become payable on the particular dates, those factors would not have avoided the insufficiency of funds which led to the failures. 
46.	The Tribunal thus needs to be persuaded that that reasonable competent businessman would have defaulted when faced to by the same or similar predicament, despite exercising reasonable foresight. 
47.	In the present circumstances the drop in the demand for Mr Joseph-Lester’s scaffolding work was sudden and severe. It seemed to the Tribunal that the reasonable competent businessman could not have predicted this downturn. Neither could he have predicted its extent.
48.	The reasonable competent businessman must also be taken to have exercised due diligence and a proper regard for his tax obligations. In particular, he would have sought to improve his cashflow so that those obligations could be met. Mr Joseph-Lester took a succession of steps to do this. He first used the existing overdraft to the maximum without jeopardising the obligations he had undertaken to VOSA; he used his credit card to plug the gaps; he reduced his workforce; he renegotiated his trade creditors and put pressure on his debtors; he cut his own drawings by 60%, and he moved his VOSA obligations on to his credit card so that he could free up the balance of the overdraft to use for his business. The Tribunal also noted that his receipts arrived in uneven ‘lumps’ rather than as smooth revenue stream, which made cashflow management more difficult, but that Mr Joseph-Lester had sought to match those receipts with his PAYE obligations.
49.	It is true that at times there appears to be a margin within the bank balance which could have been used to pay the PAYE a little earlier. But a reasonable competent businessman has to look forward at its existing commitments, and not simply at the cash position on the particular day on which the PAYE was due, and we agree with Mr Joseph-Lester’s submissions on this. In particular, Mr Joseph-Lester had to take into account the salary obligations and fuel bills which had to be paid if his business was to survive. 
50.	We find that he dealt in a fair and business-like way with the demands on his available cash resources. In our view he came up to the required standards contemplated by the expression “reasonable excuse” in the context of the Scheme, and we thus allow his appeal. 
Other matters
51.	Our decision on reasonable excuse makes it unnecessary for us to decide the questions of proportionality and discretion. These are complex issues and we are reluctant to express a view in the absence of full legal argument.
52.	This document contains full findings of fact and reasons for the decision. Any party dissatisfied with this decision has a right to apply for permission to appeal against it pursuant to Rule 39 of the Tribunal Procedure (First-tier Tribunal) (Tax Chamber) Rules 2009.  The application must be received by this Tribunal not later than 56 days after this decision is sent to that party. The parties are referred to “Guidance to accompany a Decision from the First-tier Tribunal (Tax Chamber)” which accompanies and forms part of this decision notice.

TRIBUNAL CHAIR: ANNE REDSTON
RELEASE DATE: 11 FEBRUARY 2010