PAYE: Reimbursement by Employees

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18 March 2009

A recent Special Commissioners' decision has highlighted concerns where employees are obliged to reimburse employers for unpaid PAYE. In some cases this may leave employees exposed to a potential 56% charge to tax whilst theoretically enabling those who do not repay to take advantage of an effective 16% rate. 

Where an employer becomes liable to HMRC under the PAYE system for a payment made to an employee free of tax and has insufficient funds to pay, the employee must remunerate the employer within a strict time limit or else risk the PAYE deficit being treated, and taxed, as earnings.

In Chilcott & Others v Revenue & Customs ([2008] UKSPC SPC00727(18 December 2008)), the Special Commissioners considered submissions by the appellant taxpayers that, amongst other issues, the taxation of a deferred reimbursement of PAYE amounted to double taxation at an effective rate of 56% and ought only to be reserved for penal imposition.

The facts

The appellant taxpayers exercised share options in June and December 2001 and no PAYE deductions were made on the grounds that it was believed the options obtained by the appellants were not obtained by reason of employment.

It was subsequently established that the realisations of the options were taxable as employment earnings and a PAYE liability had therefore arisen on the date of execution. Consequently the appellants, having received their gains free of tax and with their employer not having funds to make payment, ought to have funded their employer's payment of the PAYE liability but instead submitted their tax payments as part of their self-assessment returns.

The appellants sought to mandate their repayment due in respect of the incorrectly submitted self-assessment to HMRC in satisfaction of their employer's PAYE liability. The mandate was completed in early 2004.

The appellants' remittance to their employers fell outside the 30 day period for reimbursement of employee PAYE liability and as such HMRC sought to recover a charge to tax on the late-redeemed payment under s144A ICTA 1988 (replaced in similar terms for 2003-2004 onwards by s222 ITEPA 2003).

The arguments

The appellants argued that s144A ought not to apply in such an instance; HMRC was not in danger of failing to receive the tax payable. They submitted that the effect of s144A – taxing as an employee's income a PAYE liability outstanding for more than 30 days (now 90 days under s222 ITEPA) – was of a penal nature and ought to be reserved for instances of tax avoidance or evasion.

The appellants also argued that, where the PAYE liability is subsequently reimbursed to an employer even after the 30 day period, the amount remitted back to the employer could not logically be defined as income or emolument. It was submitted that it would therefore be illogical for HMRC to tax repaid liabilities as income, and the appellants argued that s144A ought only to apply to instances where the PAYE liability was not ultimately repaid.


The Special Commissioners found in favour of HMRC. The appellants' argument that the outstanding liability did not amount to income was dismissed as irrelevant; s144A merely necessitates that the liability be treated as income, not that it must logically be classified as such.

Section 144A was deemed not to be penal in nature and as such the requirement of avoidance or evasion proposed by the appellants was dismissed. The Commissioners did however raise concerns as to the fairness of the application of the section, highlighting in particular two effects of HMRC's application of s144A (now s222 ITEPA).

Firstly, employees who reimburse their employers for the PAYE liability after the 30 day period are subject to an overall burden of up to 56%; being 40% PAYE tax in the first instance, and a further 40% on the liability itself. Employees who choose not to reimburse would only pay tax on the notional income received in respect of the PAYE liability – effectively 16 %.

The second concern raised was in relation to the s144A charge being levied in its entirety regardless of the amount of time for which the reimbursement was outstanding. This practical implication is that an amount outstanding for 31 days (or 91 under the new regime) would be subject to the same charge as an amount outstanding for, as an example, 5 years.  The Commissioners suggested that HMRC might utilise their collection and management powers to adjust the tax payable by reference to the time the reimbursement was outstanding; leaving the "full rigour of s144A for cases where employees fail altogether to reimburse their employers."

Whether or not HMRC take on board the Special Commissioners' recommendations remains to be seen.

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