Lorraine Kelly wins £1.2m IR35 case – analysis
Lorraine Kelly has become arguably the most well-known winner of an IR35 case, following a high-profile decision made at the First-Tier Tribunal recently.
The presenter is one of a string of TV stars that have been using Personal Service Companies (PSCs) as part of their contractual arrangements with the broadcasters that pay them.
A National Audit Office report in November revealed that in 2017-18 the BBC had contracts with over 5,000 PSCs facilitating the contractual arrangements of freelancers including actors, entertainers and off-air workers.
The report was commissioned following an open letter to BBC director general Tony Hall published in The Guardian last March from a group of 170 presenters including Victoria Derbyshire, Naga Munchetty and Dan Snow, complaining about the BBC’s handing of the implementation of IR35 reform in the public sector, also known as the “Off-Payroll” rules.
During a subsequent hearing of the House of Commons Culture Committee, an anonymous BBC presenter told MPs that she had tried to kill herself due to the stress caused by the implementation of Off-Payroll.
Genuinely self-employed freelancers are often forced to set up Personal Service Companies due to concerns at the end-client over liability exposure when engaging sole traders.
Lorraine Kelly’s appeal was in relation to a tax and National Insurance bill for more than £1.2 million levied by HMRC in respect of her contract receipts with ITV Breakfast Ltd, paid to her via her PSC, Albatel Ltd. HMRC claimed that the terms and conditions of her contract meant that her ITV revenue was actually employment income. As such, they also sought to disallow expense claims relating to payments to Ms Kelly’s agent.
ITV does not currently fall under the scope of Off-Payroll as it is a private sector enterprise. Off-Payroll is expected to be extended to the private sector in April 2020.
The loss for HMRC comes at an embarrassing time for the tax authority, when they are coming under increasing criticism for making erroneous IR35 assessments and for misleading Public Sector Bodies into over-taxing their freelancers via their flawed online CEST IR35 status checker tool.
Background
Lorraine Kelly has worked for ITV for over 30 years. Her PSC, Albatel Ltd, was incorporated in 1992.
HMRC had previously enquired into her 2009 tax return, but subsequently closed the enquiry having found that no errors had been made.
In July 2012, Ms Kelly – via Albatel – agreed a contract with ITV Breakfast Ltd for the provision of her services to present two programmes: “Daybreak” and “Lorraine”. The contract was for a minimum two-and-a-half-year length. In February 2014 the contract was amended to extend her “Lorraine” work for a further three years, to July 2017.
In 2016, following a meeting between HMRC and ITV’s Group Tax Compliance Manager the previous year, Ms Kelly received a letter from HMRC declaring that the contract was caught by IR35 and that her agent’s fees were not a deductible expense. The subsequent tax bill related to tax years 2012-13 to 2015-16.
After being slapped with the bill for over £1.2 million, in February 2017 Ms Kelly appealed to the tribunal. She was represented by Keith Gordon of Temple Tax Chambers.
Process
IR35 cases are complex. The courts disregard the existence of the limited company and consider a “hypothetical” contract that would have existed if the freelancer had had a direct relationship with their end-client. This hypothetical contract may include terms and conditions from the agreed contracts, but only if they are consistent with the actual working relationship. The hypothetical contract may also include terms that aren’t in the written contracts, if it can be shown that they reflect the true nature of the relationship.
The hypothetical contract is then assessed against criteria refined by the courts over decades, since, at least, the key employment status case of Ready Mix Concrete (South East) Ltd vs Minister of Pensions and National Insurance from 1968, to determine whether it represents an employment contract, or a true contract for services (i.e. a self-employed relationship).
Usually this works in HMRC’s favour, as, since the introduction of IR35, contractors have attempted to avoid IR35 by adding bogus clauses to their contracts in order to satisfy the self-employment criteria. The hypothetical contract disregards any contractual terms that are clearly not in keeping with the true relationship between contractor and client.
Curiously, however, in this case, it seems that an over-reliance on the written contractual terms has been HMRC’s downfall. Ms Kelly successfully demonstrated that her contract was an industry-standard contract that bore little relation to her true relationship with ITV, and when the tribunal considered the actual relationship, using the hypothetical contract method, judge Jennifer Dean ruled it to be one of self-employment.
Details of the Case
Contractors reading this will arguably be most interested in the rationale behind the judgement, wanting to compare the details of the decision to their own circumstances.
So, before getting into the legal nitty-gritty, let’s review the key points of HMRC’s argument:
- The contract in question was a two-and-a-half-year contract, extended for a further three years
- The length of the “Lorraine” programme engagement was four years in total
- The contract was ostensibly for the provision of Loraine Kelly’s services as a presenter, personally – if a substitute was required, ITV would have the final say over who
- ITV had editorial control over Ms Kelly’s output
- A condition to work for 42 weeks annually implied 10 weeks annual leave allowance
- The potential for ITV to oblige Ms Kelly to undertake interviews, meetings and press launches without additional remuneration indicated a mutuality of obligation and degree of control consistent with employment
- There was no way for Ms Kelly to make a profit or a loss on the engagement
- There was no requirement for Ms Kelly to invest in equipment or staff
- ITV reimbursed Ms Kelly for expenses incurred
- Ms Kelly’s 30 years’ service at ITV indicated that she is “part and parcel” of the organisation
- Exclusivity clauses restricted Ms Kelly from taking on additional contracts without ITV’s consent
- Although the contract provided for a six month notice period, ITV would have been required to pay Ms Kelly during the notice period
On paper, this seems to be a strong case for employment. The reality, however, is that HMRC’s argument betrays a worryingly flawed understanding of the rules that they have been entrusted to enforce.
IR35 assessments can never be accurate if a “check-list” approach is used. One must look at the actual details of the relationship to “paint a picture”, and then stand back and consider if the picture you are looking at is one of employment, or self-employment.
Judge Dean notes in her decision: “We bear in mind that the test is not a ‘mechanical exercise of running through items on a checklist’ but rather the full picture ‘from the accumulation of detail’ must be considered followed by standing back to make an ‘informed, considered, qualitative appreciation of the whole’ (per Nolan LJ in Hall v Lorimer). We have therefore approached this case by making a value judgment on the circumstances as a whole rather than focussing on isolated features.”
The law
The criteria for what constitutes employment and what constitutes self-employment have never been defined by an Act of Parliament.
That’s not due to negligence on the part of the legislature – it’s an impossible task, given the breadth and constantly evolving nature of working relationships between contractor and client.
It thus falls upon the courts to repeatedly assess exactly how to determine employment status on a case-by-case basis: taking into account previous decisions, but also the unique circumstances of each case. IR35 thus offers us a fine example of the advantages of the common law legal system.
That doesn’t help affected freelancers, of course, and gives rise to a criticism that has been consistently cited by opponents of IR35: it is almost impossible to know one’s IR35 status with any legal certainty, unless you have been through an IR35 tribunal case (and even tribunal decisions may be subject to appeal).
That is to say, IR35 is a moving target – for taxpayers, but also for the Revenue.
The Albatel case, therefore, gives us invaluable insight into what the current legal consensus is. After due consideration of the case law, Judge Dean decided on the following factors to consider:
- Mutuality of Obligation
- A “sufficient degree” of control over the provision of the contractor’s services by the client
- The existence of a right to substitute one contractor for another by the PSC
- Whether the worker was “in business on their own account”: this includes bearing costs of necessary equipment, hiring helpers and bearing financial risk (ability to make a profit or a loss)
- Duration of engagement, degree of continuity and whether the worker has become “part and parcel” of the client company
It is unclear whether these factors are listed in order of significance, although when taking previous IR35 decisions into account, they do seem to be, at least roughly.
The Decision
Judge Dean first considered HMRC’s mutuality of obligation argument. Ms Kelly’s barrister, Keith Gordon, had argued that whilst some obligation exists, it was not enough to satisfy the mutuality of obligation test. It is not enough merely for X to pay Y to perform a specific task. Ms Kelly provided her services for 42 weeks per year but the “Lorraine” programme aired all year, with Ms Kelly being instrumental in selecting replacements for the times of the year that she is absent. ITV also had broad powers to terminate her contract, for example if ratings fell. Mr Gordon also noted that there was no obligation for Ms Kelly to provide any services to ITV; ITV merely had the right to call on Ms Kelly “on an exclusive and first call basis”.
Judge Dean agreed: “In our view there was mutuality of obligation, but such that what there was amounted only to the ‘irreducible minimum’ and we did not find it determinative of the issue.”
Control was then considered. Mr Gordon had argued that HMRC had misunderstood the application of this criterion. Control exists in both self-employed and employed relationships – the relevant issue is the degree of control. He gave the excellent analogy of a gardener that is instructed where to plant and what to prune, but, if asked to serve dinner, an employee would be unable to refuse whereas a self-employed worker could.
The implication was that HMRC had focused heavily on the “what” element of control, without giving similar consideration to the “where”, “when” or “how”.
Mr Gordon also argued that HMRC’s approach, relying on ITV’s editorial control, was flawed. By way of example he highlighted an actor appearing in a 12-month run of a West End show; it would be inconceivable that the actor would be considered anything other than self-employed except where the terms of the engagement clearly point towards employment. The actor is required to follow a script, wear the clothes chosen for the production and move around the stage as directed. In contrast, Ms Kelly had considerably more control over her performances.
Furthermore, Ms Kelly’s agent submitted that the contractual terms cited by the Revenue were part of an industry-standard contract that neither party felt absolutely bound to. A trip to Antarctica was cited as a clear example of Ms Kelly breaching the terms of the written contract, but was allowed by ITV as part of their “give and take” relationship.
Various other examples were given to demonstrate that the requisite level of control to prove an employment relationship did not exist.
Judge Dean considered the evidence at length and agreed with the appellant. “We are satisfied that control of Ms Kelly’s work pursuant to the hypothetical contract lay with Ms Kelly. In our view the level of control falls far substantially below the sufficient degree required to demonstrate a contract of service and we are satisfied that the factors strongly indicate that the contract was one for services.”
“Contrary to being part of a jigsaw, Ms Kelly was the jigsaw” (Dean J)
With regards personal service, there was no dispute from Mr Gordon that Ms Kelly was required to provide her services personally. Regardless, given the lack of both control and mutuality of obligation, at this point the judge noted that “we are satisfied that the factors strongly indicate that the contract was one for services”.
Other relevant factors were then considered:
- Ms Kelly was not entitled to sick pay, holiday pay or other benefits
- She was not provided with training
- She was not subject to staff appraisals
- There was no obligation other than to attend the show
- There was no scope for Ms Kelly to increase profits but she could have made a loss due to the show being cancelled or due to long-term illness
- No equipment was provided to Ms Kelly except for clothes and an earpiece
- Ms Kelly did not contribute to social media related to the programme
- Ms Kelly’s other endeavours (including her own fashion line and work on other TV shows) indicated she was “in business on her own account” and not “part and parcel” of ITV: “In our view ITV was not employing a ‘servant’ but rather purchasing a product”
Upon consideration of all of the factors, looking at the overall picture, the tribunal therefore ruled that Ms Kelly was a self-employed freelancer and not an IR35-caught employee of ITV.
Agent’s Expenses
This meant that the issue of the deductibility of her agency fees was a moot point – self-employed workers are able to claim a much wider range of expenses than employees, and agency fees are unquestionably allowable for self-employed individuals if they are “wholly and exclusively” incurred in the course of their work.
However, as the tribunal was asked as part of the appeal to consider the issue of whether the agency expenses would have been allowable had Lorraine Kelly been caught by IR35, they were bound to consider the issue.
In considering the expenses issue, the tribunal referred to a case from a 2006, Madeley & Finnigan vs HMRC. Yes, this case involved Richard & Judy, and their work for Granada TV. This case is not binding (not legal precedent) but involved a very similar situation regarding TV stars’ agent’s expenses under employment, therefore it was agreed by both HMRC and the appellant that it should be considered by the tribunal as the relevant test.
The Madeley & Finnigan case essentially considered whether Richard & Judy’s agent’s expenses were allowable under section 201A of the Income and Corporation Taxes Act 1988, which has since been repealed and can be found at Income Tax (Earnings and Pensions) Act 2003 section 352: “Limited deduction for agency fees paid by entertainers”.
The “entertainer’s expenses” rule relevant to this case requires the claimant of the expenses to be a “theatrical artist”. Thus, the tribunal had to consider whether Lorraine Kelly was appearing on her shows as herself (à la Jeremy Paxman on University Challenge) or if instead she adopted a theatrical persona.
Without going into the details of the tribunal’s extensive reasoning, the decision made was that Ms Kelly did adopt a persona, therefore she could have been considered a “theatrical artist”, and thus the agent’s expenses would have been allowable, even in the event that her ITV contract was considered inside-IR35.
“We should make clear we do not doubt that Ms Kelly is an entertaining lady, but the point is that for the time Ms Kelly is contracted to perform live on air she is public ‘Lorraine Kelly’; she may not like the guest she interviews, she may not like the food she eats, she may not like the film she viewed but that is where the performance lies, as no doubt with other entertainers such as Ant and Dec or Richard and Judy.” (Dean J)
Whilst the ruling is an irrelevance given that the contract was outside IR35, this decision is still significant because it represents another failure of logic on HMRC’s part.
Analysis
This loss for HMRC is part of a wider pattern of aggressively demanding tax where none is due – a strategy that the Revenue has adopted increasingly since the introduction of IR35. The reasons why are open to discussion, but it would appear that the taxman’s grasp of the application of IR35 is lacking – the tribunal itself noted “we do not consider this to be a borderline case”, which begs the following questions: why did HMRC charge the tax in the first place, and why do taxpayers need to escalate such cases to the tax tribunal even if they can make a cohesive argument to HMRC that their contract is clearly outside IR35?
Keith Gordon of Temple Tax Chambers successfully managed to demonstrate key flaws in HMRC’s understanding of employment status case law, particularly with regards to the hypothetical contract and the “control” criterion.
In addition to the failure to grasp the IR35 status of Ms Kelly, the additional failure to understand the “theatrical artist” test – a much simpler test than IR35 – should be particularly embarrassing for the Revenue.
Besides HMRC’s errors, the case reinforces that, whilst IR35 assessment is highly complicated, the courts continue to place the most weight by far on the “holy trinity” criteria of control, personal service and mutuality of obligation.
In this case, control was considered at much greater length than any other factor. That may be due to the unique circumstances of the case. Mutuality of obligation and personal service were also prioritised by the tribunal, with Ms Kelly actually failing the personal service test yet succeeding in demonstrating self-employment. This highlights the inherent flaws in taking a “check-list” approach to IR35 assessment, which is an approach HMRC tacitly encourage via their flawed online status checker, CEST.
Indeed, ContractorCalculator.co.uk have run the details of the case through CEST and were returned an “inside IR35” result. This is of particular concern given the impending implementation of Off-Payroll to the private sector, as HMRC appear to be pushing CEST as the answer to what otherwise would be an administrative nightmare for private sector clients when they suddenly become responsible for mass IR35 assessments overnight in April 2020.
“We spent two hours examining the decision and put the correct answers into CEST, substantiated with excerpts from the judgment,” commented ContractorCalculator.co.uk CEO Dave Chaplin.
“CEST was unequivocal – it thinks Lorraine Kelly should have been caught by IR35, contrary to the tribunal decision by Judge Dean. This is simply not good enough from a tool which HMRC has already used to issue backdated tax bills amounting to millions of pounds.”
Last year it emerged that CEST doesn’t consider mutuality of obligation – a key employment status indicator – whatsoever.
Additionally, this case seems to have been mis-reported in the media. Whilst IR35 cases rarely make the major newspapers, Lorraine Kelly’s high profile has meant the case has been widely reported. Various reports have been published that have erroneously attribute the tribunal’s ruling on agent’s expenses to the case as a whole, interpreting the decision to mean that because Lorraine Kelly adopts a theatrical persona, she managed to avoid a huge tax bill. This is false. The decision hinged mainly on the level of control that ITV had over Lorraine Kelly: the agent’s expenses issue is a red herring.
“I can’t help thinking that if Lorraine Kelly’s lawyer had been in charge of the Brexit negotiations, everything would have been done and dusted months ago, with the EU agreeing to refund us our entire budget contributions for the past 40 years. The TV presenter’s lawyer has just successfully clawed back more than £1m in tax and national insurance contributions on the grounds that Kelly is not actually Kelly. The judge accepted the argument that the friendly, chatty, feelgood Kelly most of us see is in fact just a persona for TV.” (John Crace, The Guardian, 22/03/19 – a satirical piece but factually inaccurate nonetheless)
27th March 2019.
Sources:
http://financeandtax.decisions.tribunals.gov.uk//judgmentfiles/j11009/TC07045.pdf
https://www.bbc.com/news/business-46212606
https://www.theguardian.com/media/2018/mar/20/bbc-presenters-reveal-constant-anxiety-caused-by-pay-arrangements
http://www.fieldtax.com/wp-content/uploads/2014/10/Madeley-and-Finnigan-v-HMRC-2006UKSPC-SPC00547-08-JUNE-2006.pdf
https://www.legislation.gov.uk/ukpga/1990/29/section/77
https://www.legislation.gov.uk/ukpga/2003/1/section/352
https://www.ft.com/content/00e5f5a0-f7f5-11da-9481-0000779e2340
https://www.theregister.co.uk/2018/07/10/hmrc_sets_out_its_stall_for_ignoring_moo_in_cest/
