[2010] UKFTT 645 (TC) 

TC00926

Appeal number: TC/2009/15183

Income tax – failure of employer to operate correct PAYE code –whether employer liable to make good lost income tax –regulation 72 Income Tax (PAYE) Regulations 2003 – whether employer took reasonable care   

FIRST-TIER TRIBUNAL

TAX 

	D P OWENS
Trading as
BUSES RHIWLAS
Appellant

	- and -

	THE COMMISSIONERS FOR HER MAJESTY’S
	REVENUE AND CUSTOMS (Income tax)	Respondents

				TRIBUNAL: 	Dr David Williams (Judge)
						Mrs L Salisbury (Member)

Sitting in public in Colwyn Bay on 8 10 2010

Mr B Hughes of A Hughes-Jones, Dyson & Co, chartered accountants for the appellant 
Mrs Taylor, Officer of Revenue and Customs, for the Respondents

© CROWN COPYRIGHT 2010

DECISION

1	The hearing of this appeal took place in Colwyn Bay, north Wales. The appellant had, through his representatives, asked to speak to the tribunal in Welsh as this is his main language. Accordingly, the tribunal directed that the key documents be translated into Welsh and arranged for an interpreter to be present (although the members of the tribunal have some knowledge of the Welsh language). The Respondents were represented by a Welsh-speaking officer. In the event, almost the entire proceedings took place in English. This decision is therefore being issued in English only.  
2	Mr Owens, the Appellant, gave evidence at the hearing. He was represented by the firm of chartered accountants who had acted for him during the latter part of the period relevant to the tribunal. Evidence was also given by Mr Pursglove, a partner in the firm of accountants.  The tribunal was supplied with an agreed bundle of documents. The Respondents (“HMRC”) offered no oral evidence.
3	The most convenient point at which to start with the evidence is the HMRC review letter of 26 08 2009. This confirmed decisions taken in a decision letter of 11 06 2009. The letters concerned a decision that there had been an underdeduction of PAYE income tax by the Appellant during the tax years 2004-05 to 2006-07. 
4	The formal HMRC decision, taken on 11 06 2009 was that there had been an underdeduction of income tax in respect of payment of earnings to a named employee (“E”). The sums underdeducted were: 2004-05 - £635.92; 2005-06 - £1,328.78; and 2006-07 - £1,383.45. HMRC in the decision letter accepted that the Appellant had acted in good faith but decided that he had not acted with reasonable care. HMRC therefore declined to seek to collect the income tax from the employee and directed instead that it be payable by the Appellant.
5	The Appellant gave the tribunal full information about his business, so far as he was able from personal knowledge and bearing in mind the time since the relevant events occurred. The tribunal accepts the Appellant’s evidence as honestly and conscientiously given. Limited additional evidence on a few points was given by Mr Pursglove, but the tribunal was not much assisted by his evidence.
6	The Appellant set up his business running a small bus service in 1996. The problem that gave rise to this case arose when the Appellant expanded the business and took on E as an additional driver in 2004. E, (from whom the tribunal received no direct evidence) was, the Appellant understood, a widower with young children. He was a quiet individual who had obviously suffered personal problems and the Appellant did not seek to pry into his private life. E was a competent employee and remained in the employment of the Appellant throughout the relevant period.
7	 The Appellant had other employees during this period. However, the tribunal accepts that there were no other outstanding issues between HMRC and the Appellant about any tax or National Insurance issue either about those other employees or of any other kind arising from the years in question. The circumstances behind this appeal were the only issues causing disagreement between the parties.
8	When E was taken on by the Appellant, both completed the appropriate P46 notifying the new employee to HMRC. E indicated on that form that his work as a driver was his only or main job and that he received a pension as well as the income from his job. The tribunal did not have clear evidence about this but accepts that the pension was payable to E as a widower with children. The Appellant’s part of the form was also completed, indicating that the Appellant would be using PAYE Code 474L, using the week 1 basis. This was sent promptly to HMRC.
9	It is not in dispute that this was the wrong code. The code that should have been operated was Code BR, at least until HMRC notified the Appellant otherwise. This is because E was also receiving a pension and was being taken on to the payroll part way through the tax year. The Appellant had received the standard instructions about this from HMRC, in common with all other employers with PAYE responsibilities. The result, the tribunal was told, was that E was given an adjustment for his income tax personal allowances both in his net pay from the Appellant and in his net payments of pension. 
10	The application of Code 474L and its consequences in that tax year were not in dispute before the tribunal. It does not need to discuss that issue further.
11	The real problem was that – from the standpoint of the Appellant - nothing was changed by the Appellant as employer, or by the employee E, or by HMRC, during the next two tax years. The Appellant continued to apply Code 474L (or, rather, the equivalent for those years, 489L and then 503L) rather than Code BR.  The underdeduction of income tax in respect of E continued. The matter only came to light as a result of a routine inspection of the Appellant’s business records in September or October 2007. The underdeduction was noted and stopped for 2007-08.
12	The underdeduction of income tax for the years to 2007-08 is also not in dispute. Nor is the amount said to be underdeducted. The sole question in dispute is how regulation 72 of the Income Tax (Pay as You Earn) Regulations 2003 is to be applied to the sums due.
13	Regulation 72 provides whether underpaid tax is payable by the employer or the employee. Normally it is the employer that must make good an underpayment. Regulation 72 applies to remove liability from an employer if either of two conditions, A or B, applies. HMRC did not contend that condition B applied in this case. That is about the wilful refusal to deduct tax. Condition A is therefore the condition to be considered. It is in fact two conditions, both of which must be met: 
	“(a) that the employer took reasonable care to comply with these Regulations,
	and
(b) that the failure to deduct the excess was due to an error made in good faith.”
14	HMRC did not contend that the Appellant had not acted in good faith. Having heard from him, the tribunal considers that the Appellant’s good faith was rightly not questioned.
15	HMRC did contend that the Appellant had made an error and did not take reasonable care to comply with the PAYE Regulations. He had been given clear, standard instructions and he had not observed them. He had taken no measures either in the first of the years or in the later years to check the position and his failure to follow the instructions and to check could not be considered as reasonable care.
16	The tribunal finds that the Appellant did not take reasonable care when taking E on as an employee in 2004. E had clearly indicated his pension on the form P46. While it is quite unusual for someone of E’s age to be receiving a pension (noted in the documents wrongly as a retirement pension, which it plainly was not), E had disclosed the fact on the P46 and the Appellant was or should have been aware of it. The instructions issued for the use of such forms should have alerted the Appellant to the need to check the position or to apply Code BR. He should not have applied Code 474L. The tribunal accepts that the Appellant may not have wished to check up on the personal affairs of an employee who did not wish to speak about them when there were clearly serious personal problems, but he did not need to do that. The information he needed was on the P46. He, or his pay clerk, should have been alerted by the information that there was a pension – and therefore another source of taxable income – into the need to check with the notes, with HMRC, or with a professional adviser. He did none of those. The tribunal finds that Condition A was not met by the Appellant in 2004-05.
17	The tribunal must also record another finding that is important with regard to the following years but does not, in the view of the tribunal, affect the first of the  relevant years. HMRC submitted that a Code BR had been issued for E to the Appellant on 4 11 2004. There was no direct evidence of this, but that was the action that would be expected. However, the Appellant’s evidence was that this notice was not received by him or his business. HMRC could produce no evidence to call that into question, and the tribunal accepts the Appellant’s evidence on that. His was a small business and he handled the post either himself or through the individual who acted for him as his payment clerk. They would not have ignored a tax coding notice. However, the HMRC evidence does show that the relevant office of HMRC was expressly aware at that time of the need to adjust E’s coding. 
18	The tribunal does not accept that a failure to take reasonable care in one tax year automatically means that the effect of the failure in that year continues without more to make the conduct of the employer unreasonable in later years. Each year must be considered separately as a matter of fact. This is particularly so in an unusual case, and the tribunal considers that the facts of E’s position were unusual for a smaller employer. All employers know that adjustments to PAYE codings can be made by HMRC at any time in a tax year with effect throughout the year (or carried to the next year). So the absence of any notice during 2004-05 about 2005-06 does not mean that no adjustment will be made in that later year. The Appellant made a timely return of the PAYE details to HMRC at the end of 2004-05 and again at the end of 2005-06. This therefore put HMRC on notice that there was an underdeduction. The tribunal has already found that HMRC were put on notice of this by the P46. There was, it is worth repeating, no default by the Appellant in this respect and nothing was hidden or wrongly returned.  The question of reasonableness is therefore whether, at some point before the end of 2005-06 or 2006-07, the Appellant should have realised that he might have made an error in not applying Code BR to E for that year or at some time during that year. 
18	That has to be considered in a context where the Appellant did not know, and had no reason to know, about the personal income tax affairs of the employee. He therefore did not know how tax was being deducted from any pension that E continued to receive. He therefore did not know that not applying Code BR was a continuing error. (It would not be if HMRC had taken the matter up with E and altered the coding on his pension. HMRC would be under no duty to tell the Appellant this, nor would E. So applying the personal code rather than Code BR to E in the following years was not on its face wrong as it was in the first year.) He did know that E’s work with him continued to be E’s only or main employment. 
18	The tribunal also finds that HMRC did not visit or contact the Appellant at any time during those two years. Nor did HMRC contact the Appellant’s accountants, who came into the picture as his payroll agents during the period. Nothing appears to have been done to follow up what HMRC would have reason to regard as a failure to operate a coding notice sent by HMRC to the Appellant. The first relevant contact was in September 2007, followed by the visit noted above. In particular, the Appellant received no notices of coding about E.  
19	As noted, the Appellant did consider as his business grew that he needed expert help with his payroll. He employed his representatives before the tribunal to undertake that work, which they did.  In general terms that again shows that the Appellant was anxious to ensure that he did conduct his tax affairs correctly. Further, from that time the representatives made the Appellant’s returns for him in electronic form, so enabling HMRC to check them efficiently.
20	The tribunal finds that, in these unusual circumstances, it is satisfied that the Appellant did not fail to take reasonable care in the second and third years. 
21	The first unusual element was that the Appellant took on an employee with unusual personal circumstances, namely that he was a widower with young children receiving what appears to be a widower’s pension. (The evidence before the tribunal about this pension is inconsistent and part is plainly wrong.) The tribunal is not in a position to comment in any way about the employee beyond the comments made about the P46. Nor, strictly, did HMRC establish on the evidence before the tribunal that E’s total tax was underpaid in 2005-06 or 2006-07, as the tribunal is not aware of how the pension was taxed. The Appellant was not in a position to demand that information from E and had, the tribunal finds, good reason not to explore the issue informally. 
22	The second unusual element was that the Appellant received no notifications at any relevant time about the coding error. The Code BR notice that was, or should have been, issued in respect of E was not received by the Appellant. Nor, the tribunal also finds, did HMRC send him, or his accountants, any other notice about E at any time during the relevant period. This is despite the fact that they supplied HMRC with all required information in a timely and effective way throughout.  
23	Those elements must be considered against a background that (a) the good faith of the Appellant was rightly not in question; (b) he took throughout a conscientious attitude to all his tax affairs and took the action, when he felt he should, of employing accountants to help him with his payroll; (c) HMRC was aware from November 2004 of the failure by the Appellant to operate the correct code, but did nothing about this when it was informed in a timely way that the Appellant continued to operate the incorrect code in 2005-06 and 2006-07. It “discovered” the error only as part of a more general inspection later in 2007; (d) that inspection revealed no other shortcomings of any kind in the Appellant’s tax affairs – this was an isolated error.  
24	In short this was an honest man who made an honest mistake about an employee in unusual circumstances and was at no time put on notice that he had made that mistake when in the normal course of events he would have been put on notice. The tribunal finds that although he made an initial error that, acting reasonably, he should not have made when taking the employee on and noting the P46, that on the balance of probabilities it is satisfied that that initial error does not on the particular facts establish that the Appellant continued to act unreasonably in the following two years.
25	The appeal is therefore dismissed in respect of 2004-05 and allowed in respect of 2005-06 and 2006-07. Interest will be payable in respect of 2004-05. HMRC did not ask for any penalty. 
David Williams

TRIBUNAL JUDGE
RELEASE DATE:15 December 2010