Revenue and Customs v Facilities and Maintenance Engineering Ltd.

Judgment

Mr Justice Park:

Overview

1. I will refer to the appellants as the Revenue and to the respondent company as FAME. FAME carries on business in the construction industry, and acts as a subcontractor to main contractors. The Income and Corporation Taxes Act 1988 lays down a general rule that, when a main contractor makes payments to a subcontractor, it must make a deduction from that part of the payment which relates to labour and pay to the Revenue the amount deducted. However, there is a procedure whereby the sub-contractor can obtain a certificate from the Revenue which exempts it from having such deductions made from its receipts from main contractors. If the subcontractor holds a certificate it receives payments from main contractors gross, without deduction. Some of the cases, including this one, indicate that the possession of a certificate is commercially important to a sub-contracting company. It is not just a matter of cash flow, because main contractors are reluctant to do business with sub-contractors who do not have certificates.

2. The scheme laid down in the legislation is sometimes referred to as the Construction Industry Scheme, or the CIS for short. Exemption certificates are sometimes referred to as CIS certificates, an abbreviation which I will use from time to time in this judgment.

3. When a sub-contractor which, because it holds a CIS certificate, receives payments gross from a main contractor pays salaries and wages to its own employees it is liable to deduct PAYE income tax and national insurance contributions, NICs. It is, of course, expected to make the deductions and to account for them to the Revenue in accordance with the law. If it does not it may find itself in difficulties because of a section (which I say more about later) under which the Revenue can cancel the existing CIS certificate or refuse to renew it when it expires.

4. That is what happened to FAME. It had a certificate which was due to expire, and, because of its poor record of failing to account for PAYE and NICs on time, the Revenue refused to issue a new certificate. The Act provides for a right of appeal against the refusal of a certificate, and FAME exercised the right by appealing to the General Commissioners. The Commissioners allowed the appeal, but the Revenue have appealed to the High Court. The Revenue’s appeal has come before me. For reasons which I will explain I consider that I must allow this appeal. The result may bear very hardly on FAME and its directors, but in my opinion the law (which includes not just the relevant statutory provisions but also past cases of a similar nature) makes it inevitable that the appeal must be allowed.

5. I will return to the particular facts of this case, and the arguments which have been presented to me in it, later in this judgment. First, however, I must describe the relevant statute and case law.

The statutory provisions

6. The section which, in the absence of a certificate, imposes the obligation on a main contractor to make a deduction from a payment to a sub-contractor is s.559 of the Income and Corporation Taxes Act 1988, and the section which obliges the main contractor to account for the payment to the Revenue is s.559A. It is unnecessary for me to set them out in full.

7. However, the s.559 obligation to make a deduction does not apply if the subcontractor ‘is excepted from this section by virtue of section 561’ (s.559(2)). S.561(1) provides that a person (in practice a sub-contractor) is excepted from s.559 ‘if a certificate under this section has been issued to that person and is in force when the payment is made’.

8. S.561(2)(c) provides that a company which applies for a CIS certificate is entitled to have one issued to it if the Board (originally meaning the Board of Inland Revenue, but now, I think, meaning the Board of HM Revenue and Customs) are satisfied that the company satisfies the conditions set out in s.565. Section 561 itself does not say in so many words that the company cannot qualify to have a certificate unless it satisfies the s.565 conditions, but I believe that that is the effect of it, and other judges have approached it in that way. In any case, it is clear from the terms of s.565, to which I come next, that the conditions are mandatory if a certificate is to be obtained.

9. S.565 is the vital provision, both for a company which is seeking to obtain a certificate, and for a company like FAME which is appealing against the refusal of a certificate. I need to set out the key parts of the section in full.

565 Conditions to be satisfied by companies

(1) In the case of an application for the issue of a certificate under section 561 to a company ... the following conditions are required to be satisfied by the company.

(2) [I can omit this subsection, and also subsections (2A), (2C) and (2C), which set out conditions which are satisfied in the case of FAME.]

(3) The company must, subject to subsection (4) below, have complied with all obligations imposed on it by or under the Tax Acts or the Management Act in respect of periods ending within the qualifying period and with all requests to supply to an inspector accounts of, or other information about, the business of the company in respect of periods so ending.

(4) A company which has failed to comply with such an obligation or request as is referred to in subsection (3) above shall nevertheless be treated as satisfying this condition as regards that obligation or request if the Board are of the opinion that the failure is minor and technical and does not give reason to doubt that the conditions in subsection (8) below will be satisfied.

(5) The company must, if any contribution has at any time during the qualifying period become due from the company under Part I of the Social Security Act 1975 ..., have paid the contribution when it became due.

(6) [I can omit this subsection, which relates to returns, etc, required by the Companies Act 1985.]

(7) [I can also omit this subsection, which is about Northern Irish companies.]

(8) There must be reason to expect that the company will, in respect of periods ending after the end of the qualifying period, comply with all such obligations as are referred to in subsections (2) to (7) above and with such requests as are referred to in subsection (3) above.

(8A) Subject to subsection (4) above, a company shall not be taken for the purposes of this section to have complied with any such obligation or request as is referred to in subsections (3) to (7) above if there has been a contravention of a requirement as to the time at which, or the period within which, the obligation or request was to be complied with.

(9) In this section ‘qualifying period’ means the period of three years ending with the date of the company’s application for a certificate under section 561.

10. There is another statutory provision to which I will need to refer (the one about appeals), but for the moment I wish to make some observations on the provisions of s.565 which I have set out in the foregoing paragraph.

i) The provisions are rigorously prescriptive. By subsection (1) the conditions of the section are ‘required’ to be satisfied by a company which is applying for a certificate. If the company does not satisfy the conditions, the Revenue cannot issue a certificate to it. As I explain below, the most important condition is that the company should itself have had for the past three years a satisfactory record of compliance with its own obligations. If it has not had such a record, it is not open to it to say that, although it does not satisfy what I might call the past compliance condition, it will put things right in future, so a certificate should be issued to it. The tightly drawn provisions of the Act leave no scope for an argument along those lines. The only element of relaxation of the section is the reference in subsection (4) to a failure which is ‘minor and technical’, about which I shall have more to say later.

ii) The critical subsection which a company must satisfy (and the subsection which is the problem for FAME) is subsection (3). In practice the important aspect of that subsection is that for the past three years (the qualifying period, defined in subsection (9)) the company must have complied properly with its own obligations to make PAYE returns and payments to the Revenue — the past compliance condition. Subsection (5) extends this to bring in returns and payments of NICs as well. The policy is clear. The possession by a subcontractor company of a s.561 certificate enables it to receive payments from a main contractor without tax deduction where the payments would otherwise fall to be made under deduction of tax. For a subcontractor company to be entitled to such a benefit its own record of paying amounts which it is obliged to pay to the Revenue must be satisfactory: if the company itself has a poor record it should not enjoy the advantage of receiving payments gross rather than net.

iii) Further, subsection (8A) makes it clear that the company must not only make to the Revenue all payments of PAYE and NICs for which it is liable: it must also in principle make the payments on time. I include in that sentence the words ‘in principle’ because a non-compliance which is minor and technical will, by virtue of subsection (4), not count against the company. But a noncompliance which is more than minor and technical not merely counts against the company: it is decisive against the company, and means that the Revenue cannot issue a CIS certificate even if, had they possessed a wide measure of discretion, they would have been inclined to do so.

iv) Further, there is more in subsection (4) than the provision about noncompliance that was only minor and technical. If, despite past failures on a company’s part to comply with its own obligations (typically failures to pay PAYE and NICs on time), it hopes to be able, by invoking subsection (4), to have a CIS certificate renewed (or escape having an existing certificate cancelled, as to the possibility of which see s.561(8)), it is necessary for two conditions to be satisfied, not one. One is that any failure within the last three years has been minor and technical. The other is that such a failure must not give reason to doubt that the company will for future periods comply with its own obligations: the last part of subsection (4) and subsection (8). This represents a considerable tightening of a condition which has to be complied with in the case of all companies, including companies which do not have a record of non-compliance in the past. Any company that wishes to obtain a certificate (or to renew a certificate which is expiring) has to satisfy the subsection (8) condition that there must be reason to expect that it will comply with its own obligations in future. If, however, the company has been responsible for a failure in compliance in the last three years that condition is significantly tighter: the past failure must not give reason to doubt that the company will in future meet its own obligations on time.

11. I have no other general points to make about s.565 at this stage, although I will say more about the section when I consider the particular circumstances of FAME’s appeal. I should refer to one other provision before I move on and say something about previous cases. S.561(9) provides that ‘a person aggrieved by the refusal of an application for a certificate, or by the cancellation of a certificate’, may appeal to the General or the Special Commissioners, and ‘the jurisdiction of the Commissioners on such an appeal shall include jurisdiction to review any relevant decision taken by the Board in the exercise of their functions under this section.’ The obvious possibilities for decisions by the Board against which an appeal may be brought are a decision to refuse an application for a certificate and a decision to cancel a certificate which is already in existence.

12. There has been some discussion of the nature of the Commissioners’ jurisdiction to ‘review’ any decision of the Board. In Hudson v JDC Services Ltd 77 TC 134 Lightman J held that the subsection enabled the Commissioners to consider afresh whether an applicant company did or did not comply with the conditions for a certificate. That analysis has been followed in several other High Court cases since, and I will follow it myself in this case. It does not, however, mean that I can exercise a discretion at large. Any appeal can only succeed within the confines of the statutory provisions, and, as I have said in paragraph 10(i) above, those provisions are rigorously prescriptive. They leave little scope for any discretion, save only to the extent that there is room for some subjective judgment as to whether past failures have been minor and technical.

Previous High Court cases

13. The provisions which I have described have given rise to several contested appeals. Between 2002 and 2005 there have been seven cases in the High Court. The present case is an eighth. There must have been many more cases before General or Special Commissioners which have not gone to appeal to the High Court. The seven High Court cases before the present one are:

14. In all seven cases a subcontractor company had been refused a certificate by the Revenue, and appealed to the General Commissioners. In all seven cases the Commissioners allowed the appeal, and the Revenue appealed onward to the High Court. In five cases the Revenue’s appeal was successful. In two (the last two in the above list) it failed. In all cases the Revenue’s reasons for having refused certificates to the companies were that the companies had had unsatisfactory records of compliance with their own PAYE and NICs obligations: they had failed to satisfy the past compliance condition. The Revenue presented to the Commissioners schedules giving information about the extent to which the companies had complied or failed to comply with their monthly obligations to pay PAYE and NICs. For each month information was given as to whether the company had been late in making payment, and if so by how many days.

15. The Commissioners’ reasons for allowing the companies’ appeals varied. In some cases it was because the Commissioners found that the past failures in compliance had been minor and technical and that they (the failures) did not give reason to doubt that the companies would comply properly in future. In other cases the Commissioners’ reason was that, whether the past compliance condition was satisfied or not, the Commissioners were satisfied that the companies would comply properly in future.

16. In the cases where the High Court reversed the decisions of the Commissioners the reasons depended on the reasons which the Commissioners had given for their decisions in favour of the company. In two cases (Shaw v Vicky Construction and Arnold v G-Con) the court held that findings by Commissioners that past noncompliances by the company had been minor and technical were findings to which, on the primary facts, the Commissioners could not properly have come without erring in law.

“In my judgment this is a case in which the true and only reasonable conclusion from facts which are not themselves in dispute is one which contradicts the determination by the Commissioners.” (Ferris J in Shaw v Vicky Construction at 75 TC 41)

“Looking at the figures in this case, it is clear to me that the figures [sic, but I suspect that this is a typing error for ‘failures’] cannot be regarded as minor and technical and that the borderline has clearly been crossed ..” (Mann J in Arnold v G-Con at paragraph 27)

In one case (Woods v Lightpower) the Commissioners did not make a finding one way or the other as to whether the past non-compliances had been merely minor and technical. Warren J held that they should have done, and that on the facts the only possible finding was that the non-compliances had been more than minor and technical.

17. In cases where the Commissioners found that, although the failures in compliance had been more than minor and technical, the company’s appeal should still be allowed on the ground that the company would comply satisfactorily in future, the judges on appeal reversed the decisions because on a true reading of s.565 decisions of that sort were not possible in law. Two such cases are Hudson v JDC Services, and Barnes v Hilton Main Construction. In the former case the Commissioners had begun their decision with: ‘We, the Commissioners, found the non-compliance not to be of a minor and technical nature ...’ There was then a ‘However’, and, after an evaluation of how they saw the company at the time of the appeal, the Commissioners concluded:

“.. we consider that with its proven commitment, and the large contracts which it is now being awarded, it will be able to comply with all its future tax obligations.”

Lightman J observed:

“They [the Commissioners] appear to have assumed ... that the fact that past failures were not minor and technical was not fatal to the application. For otherwise they must have dismissed the appeal. The decision is accordingly fatally flawed by error of law on this ground.”

The other case, Barnes v Hilton Main Construction, came before Lewison J against a similar background. The Commissioners began their decision by saying ‘We are satisfied that the Inland Revenue submissions are correct that the late payments were not minor and technical’. But after a review of some points in the evidence they concluded as follows:

“We feel that, because it has not been alleged that there is likely to be a default by the company in PAYE payments and because the refusal by us to approve the issue by us of a CIS certificate would have a wholly disproportionate effect on the lives of the employees whose jobs would be at risk, we should find for the Appellants.”

On the Revenue’s appeal to Lewison J the company effectively conceded that the Commissioners’ decision could not stand unless the statutory rules could be set aside or modified by reasons deriving from the Human Rights Act. The judge did not accept the submission based on that Act.

18. I have explained in paragraph 10(i) above the point which lies behind the decisions in the last two cases which I have mentioned. If a company has failed to comply with its obligations in the last three years, and the failures were too serious to rank as merely minor and technical, the company does not satisfy the requirements which it would need to satisfy to qualify for the issue of a certificate. The Revenue have no power in law to issue one, and the Commissioners and courts on an appeal are in the same position. The system laid down by the Act is stringent. If past failures were more than minor and technical, it does not matter how convinced everyone may be that the company will not fail in its compliance again. Once three years have passed it becomes different, but in all the cases before the courts (and in this case) the failures have been within the last three years.

19. I have not yet said anything about the two cases in which the Revenue’s appeals from the Commissioners to the High Court failed. They were Cormack v CBL Cable Contractors and Templeton v Transform, etc. Each was a case in which at first sight the company’s record of paying its PAYE and NICs on time did not appear satisfactory, but the Commissioners held that the non-compliance had been minor and technical, and the High Court dismissed an appeal by the Revenue. However, in each case the Commissioners found that there had been an arrangement of sorts with the Revenue under which the Revenue regarded it as acceptable for the company to be late in paying the PAYE and NICs. In Cormack the Commissioners had found that ‘the Revenue ... as a matter of fact had acquiesced in the arrangement for late payment of PAYE’. Laddie J based his decision to dismiss the Revenue’s appeal on that finding. In Templeton the Commissioners had found as a fact that ‘an informal arrangement regarding such payment [late payment of PAYE] was accepted by the Inland Revenue.’ There was nothing of that nature in any of the other cases, and there is nothing of that nature in this case either. The Cormack and Templeton cases do not assist FAME on its present appeal.

The facts of this case in a little more detail

20. I have stated the facts in broad outline in the Overview at the beginning of this judgment. I now amplify that description to some extent. The Case Stated finds that by a letter dated 13 April 2005 the Revenue refused to grant a certificate to FAME. The Case Stated does not expressly state that the certificate which FAME had applied for was a certificate to replace a certificate which it had previously held and which was expiring. However, it is obvious that that must have been the case. The Revenue’s letter is not exhibited, so I do not know whether it expressly gave any reasons. But again it is obvious what the reasons were. They were that FAME had consistently failed over the qualifying period of the last three years to pay its PAYE and NICs liabilities on time.

21. Schedules giving details for 34 months were placed before the Commissioners, and were accepted by FAME to be correct. For 32 of the 34 months the payments were late. One of the two months where payment was made in time involved only a small sum of about £500. For most of the other months the monthly aggregate of PAYE and NICs was in the region of £7,000: sometimes a little less, in most cases somewhat more. The number of days by which the payments were late varied. Apart from the two months when the payments were on time the shortest period of delay was 13 days and the longest was 58 days. The average was about 26 days.

22. The Commissioners made a few additional findings, which I summarise as follows:

i) FAME always paid its PAYE and NICs, but often late.

ii) FAME had complied satisfactorily with its tax obligations in other respects.

iii) The internal responsibility for calculating and making the payments lay with a lady in the office, whom the directors accepted they should have monitored more closely.

iv) The Revenue had never warned FAME of the risk that, because of its late payments, it might be refused a renewal of its CIS certificate.

v) After the renewal was refused FAME had put a system in place that would ensure that payments would be kept up to date in future.

vi) The non-renewal of the certificate would be harmful to the business and would lead to a loss of jobs.

23. The Commissioners, to whom Shaw v Vicky Construction had been cited, distinguished that case on the ground that in it a warning had been given to the company, whereas no warning was given to FAME. The Commissioners then noted that payments were always made eventually and never more than two months late. That led them to decide —

“that the failures were minor and technical and gave us no reason to doubt that the conditions mentioned in subsection (8) of section 565 of the Act would be satisfied. The failures could therefore be disregarded. Furthermore we considered that there was reason to expect that FAME would comply with its tax obligations in future.”

Accordingly they allowed FAME’s appeal.

24. The Revenue appealed, and the appeal came before me for decision. The Revenue were represented by Mr Eicke of counsel. Mr Baylie, a director of the company, spoke on behalf of FAME.

Analysis and discussion

25. I first consider the Commissioners’ finding that FAME’s failures were minor and technical. In my judgment, on the basis of the undisputed facts, that was not a finding which it was open to the Commissioners to make. The regularity and frequency of the company’s failures to make payment of its own PAYE and NICs obligations on time (failures in all except two months out of 34), and the lengths of the periods by which the company’s payments were late, were broadly similar to those which Ferris J in Shaw v Vicky Construction, Mann J in Arnold v G-Con, and Warren J in Woods v Lightpower held to be incapable of being minor and technical. If anything they were slightly worse. The only possible conclusion on the facts is that FAME did not satisfy the past compliance condition in s.565(3), and that it cannot successfully invoke s.565(4) to escape the consequences through the exception for failures which were only minor and technical.

26. For the reasons which I have explained my conclusion in the previous paragraph is in itself sufficient to mean that the Revenue’s appeal must be allowed. I will, however, consider and comment on some other matters which have been raised in the case.

27. It will be recalled that, for subsection (4) to apply, a company needs to show, not just that its past failures were minor and technical, but also that the past failures do not give reason to doubt that the company will comply with its obligations in future. In FAME’s case the Commissioners found that the company did meet that second requirement of the subsection. In my judgment that was a finding which it was open to them to make, given that they had heard the evidence of Mr Baylie, one of the directors, and were satisfied that the company had reorganised its systems so that the regular non-compliances of the past were not going to recur in the future. I would not have allowed the Revenue’s appeal if it had depended on the Commissioners’ finding as to this second aspect of subsection (4) being wrong. The finding was, perhaps, generous to FAME, but I could not say that it was an impossible one for the Commissioners to make.

28. However, it is clear beyond doubt that, to get the benefit of s.565(4), a company must satisfy both conditions of the subsection. FAME, in my definite opinion and despite the finding of the Commissioners, did not satisfy the first condition (the minor and technical condition), so it does not assist the company that it did satisfy the second condition.

29. Mr Baylie, addressing me clearly and succinctly on behalf of FAME, noted that before the Commissioners the Revenue had relied on s.565(3) and the decision of Ferris J in Shaw v Vicky Construction. He pointed out to me that in the Vicky Construction case the Revenue had warned the company that it could lose its CIS certificate by reason of its failures to pay PAYE and NICs on time, whereas in FAME’s case no such warning had been given. Mr Baylie had made the same point to the Commissioners, and they had regarded it as a ground for distinguishing Vicky Construction. I cannot agree. Whether failures of compliance are minor and technical or not cannot depend on whether the Revenue warn the company of the consequences of them or not. Exactly the same point was made to Mann J by the director of G-Con Ltd who argued that company’s case before him. Mann J did not accept that it amounted to an argument which could change the result of the case. He said:

“Although it might, as a matter of decency and helpfulness, have been useful if warnings were given, warnings are not obligatory and I can quite see why the Revenue would take the view that it is the business of the taxpayer to keep an eye on his own tax position and conduct, assisted by IR40 which is available and which, if followed, would not require any further warning letter to be sent, and it is not for the Revenue to police this sort of activity.”

He added that, in so far as the Commissioners had taken into account the fact that there had been no warning, ‘that was an instance of their taking into account irrelevant considerations’. I respectfully agree with Mann J. It is worth adding that, when it was put to the Commissioners by Mr Baylie that the Revenue had not warned the company of the consequences of continued non-compliance, the Inspector of Taxes observed that FAME would have received a Revenue leaflet about the CIS scheme (IR4O, referred to by Mann J), which made clear what the consequences of failing to meet the past compliance condition could be.

30. Another point which was taken before Mann J in Arnold v G-Con and which is also taken before me is that the company’s compliance with other aspects of its obligations under the tax system (with aspects, that is, other than the obligation to account for PAYE and NICs) had been entirely satisfactory. As to that Mann J said:

“I do not think it is arguable that compliance in respect of other tax matters, such as the prompt payment of corporation tax, is capable of turning the defaults in relation to accounting for PAYE and NICs into minor and technical lapses if they are not otherwise capable of bearing that characterisation.”

Again, I respectfully agree. Further, underlying what Mann J said is the proposition which I have stated more than once in this judgment that, where a CIS certificate is not renewed because the past compliance condition is not fulfilled, the only route for a company to succeed on an appeal is for it to bring itself within the minor and technical exception in s.565(4). It is no good for the company to say (however true it may be) that, although it failed to pay its PAYE and NICs obligations and the failures were more than minor and technical, in other respects, like putting in its corporation tax returns and paying that tax, its compliance has been impeccable.

31. I now mention another argument which features in several cases about CIS certificates, including this one. Mr Baylie in his submissions to me, and the Commissioners in their decision, both make the point that FAME, having been made aware now of the consequences, will be at pains to comply with its obligations in future. I accept that that is true, but on the plain terms of s.565 it does not afford any ground on which the Commissioners or I can decide this case in favour of the company. It is absolutely clear that subsection (3) prescribes a mandatory condition and that it is a condition which looks to the past: ‘The company must, subject to subsection (4) below, have complied with all obligations ... in respect of periods ending within the qualifying period’ (my underlining). The ‘qualifying period’ is the past three years. If subsection (4) does not take a company out of subsection (3), which it does not if the past failures have been more than minor and technical, it gets the company nowhere (at least for the next three years) for it to say that it has put its house in order and will not fail to meet its own compliance obligations for the future.

32. In this connection there is a consideration of a general nature which lies behind appeals like this one and the others to which I have referred. The legal position, as I have explained, is that the rules preventing a sub-contracting company from obtaining a CIS certificate if it has a record of past failures in compliance are stringent. The rules leave little or nothing to discretion, other than to assess in a borderline case, which this case is not, whether past failures were only minor and technical. Despite that being the true position in law, it appears that some subcontracting companies have an impression that, once they can get beyond dealing with the Revenue and bring their cases on appeal to the Commissioners or the courts, the landscape changes, and that the Commissioners or the courts can do whatever they think to be reasonable. Some panels of General Commissioners may have the same belief. But it is definitely not the case. If the facts preclude the Revenue from issuing a CIS certificate (as they definitely do where the company has been responsible for failures of compliance in the last three years and the failures were more than minor and technical), they also preclude the Commissioners and the courts from issuing a certificate on appeal from the Revenue’s refusal.

33. In this case the directors of the company, while accepting that its past compliance record has been poor, sincerely believe that the consequences for FAME of losing its CIS certificate are unreasonably harsh. It seems clear that the General Commissioners had the same belief They may or may not be right. Lewison J’s judgment in Barnes v Hilton Main Construction Ltd (evaluating the rules of the CIS scheme against the European Convention on Human Rights) suggests that s.565, in particular subsection (3), is by no means so unreasonable as is alleged. But, whether the rules are reasonable or unreasonable, they are undoubtedly the rules which Parliament has laid down, and neither the Commissioners nor the courts on appeal have any power to dispense a company, with whose case they sympathise, from the consequence of them.

34. In this case the inescapable consequence of the rules, as applied to FAME’s persistent lateness in paying its PAYE and NICs obligations in the three years before its application for a new certificate, was that FAME did not meet the past compliance condition prescribed by s.565(3). The result, whether it is harsh and unreasonable or not, is that the Revenue’s appeal in this case must be allowed.