Tax Evasion: 'Sledgehammer' cracks income tax scam

Gordon Brown was accused yesterday of "overkill" in the way the Treasury has framed new measures to stop employees dodging tax.

Ministers believe they could raise £350m in the first year and a further £450m in year two by cracking down on "managed service companies", which they described as a scheme that "almost invariably disguises employment" and allows people to duck income tax.

By getting employers to pay them through their own companies, employees were able to pay themselves dividends rather than salaries, thereby avoiding income tax and national insurance.

They often moved on before the taxman had time to assess whether they should be paying income tax and national insurance rather than the lower tax on dividends, leaving a shell company with no assets.

Ministers believe a significant number of people are ignoring the IR35 rules, which the Government introduced previously to close the loophole.

In future, all people working for managed service companies (MSCs) will be treated as employees and liable for income tax and national insurance.

The new rules will also allow the Government to transfer tax debts from empty MSCs to third parties, including the provider of the managed service company scheme or its directors. Associates of the MSC scheme provider could also find themselves liable.

Chris Sanger, head of tax policy at Ernst and Young, said: "This is really using a sledgehammer to crack this particular nut. "The scope of the legislation is so wide that perfectly innocent parties could get caught up in it. Where any of those listed as being liable is a company, the directors can also find themselves jointly liable."

In its consultation document on MSCs, the Government highlighted a series of websites run by businesses that arrange them. They included promises to provide "up to 30 per cent increase in income". One advert read: "As well as saving you time, we can also save you money by reducing the amount of tax payable, increasing net pay by anything up to 30 per cent." Mr Sanger said: "This is a clear policy statement. The Government has got fed up with these people thumbing their noses at it."

Stephen Herring, tax partner at BDO Stoy Hayward, said the proposals "block the worst abuses of the use of managed service companies to avoid income tax and national insurance.

"In essence, anyone providing their services via a managed service company run for them by a third party is likely to see the whole of their income from the company, even if paid to them or their spouse as a dividend, subjected to their full rates of income tax, together with both employer's and employee's national insurance contributions."

A range of measures were also announced to further tighten what the Government described as corporation tax avoidance. Where companies have a foreign subsidiary with its own stock market quote, it will pay the same rate of UK tax as the parent.

Previously if it were in a country with lower taxes, the quoted subsidiary would pay only that country's tax. Several other technical measures were introduced in moves to generate up to £500m a year.