EMPLOYMENT INCOME BEFORE 2002/3: SCHEDULE E

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1 Note: This file contains an analysis of the old Schedule E provisions. It is only relevant for years before 2003/2004. Reference should also be made to the current edition of Taxation of Foreign Domiciliaries, as much of the material there (not reproduced here) is also relevant for the earlier years. EMPLOYMENT INCOME BEFORE 2002/3: SCHEDULE E 1. Schedule E Tax is charged under Schedule E on income falling within one of five paragraphs. Paragraph 1 is the most important and is the main subject of this chapter. Paragraph 5 catches the residue where Aany other provision of the Tax Acts@ directs tax to be charged under Schedule E. The Schedule E provisions are unusually convoluted and diffuse (and in the context of tax that is really saying something). 2. Case I charge (resident and ordinarily resident employee)

2 The starting point of our trail is Case I of Schedule E:- 1 Tax under this Schedule shall be charged in respect of any office or employment on emoluments therefrom which fall under one or more than one of the following CasesC Case I: any emoluments for any year of assessment [a] in which the person holding the office or employment is resident and ordinarily resident in the United Kingdom, [b] subject however to section 192 if the emoluments are foreign emoluments (within the meaning of that section)... Section 19 ICTA 1998 (paragraphing added). At first sight, this imposes a charge on an arising basis on all employment income of an individual who is UK resident and ordinarily resident - even if not UK domiciled. The reference to s. 192 and foreign emoluments leads the reader to the foreign domiciliary exemption. 3. Foreign domiciliary exemption to Case I charge

3 Section 192(2) provides: Where: [a] the duties of an office or employment are performed wholly outside the United Kingdom and [b] the emoluments from the office or employment are foreign emoluments, the emoluments shall be excepted from Case I of Schedule E. (Paragraphing added.) 4. AForeign emoluments@ The next stage in our path is the definition of Aforeign emoluments@ and this is found in s.192(1):... Aforeign emoluments@ means the emoluments: [a] of a person not domiciled in the United Kingdom [b] from an office or employment under or with any person, body of persons or partnership resident outside, and not resident in, the United Kingdom...

4 [c] but shall be taken not to include the emoluments of a person resident in the United Kingdom from an office or employment under or with a person, body of persons or partnership resident in the Republic of Ireland. (Paragraphing added) 5. Non-resident employer: Revenue practice The Schedule E Manual paragraph provides:- The benefit to the employee is clear. There is likely to be a big reduction in the amount of emoluments chargeable to income tax in the United Kingdom. You should examine the facts closely before accepting that emoluments fall within this exception. In particular you should find out whether the employer has any place of business in the United Kingdom. If you can trace an accounts file for the employer, ask the accounts Inspector for instructions on the employer=s residence status. Particular care must be taken to ensure that this requirement is satisfied if the employer is a Acaptive company@: see Cooke v Blacklaws 58 TC Employer resident in Ireland

5 The remittance basis does not apply if the employer is resident in Ireland. This is achieved by the drafting technique of saying that emoluments from an Irish employer are not Aforeign That might surprise the residents of Eire. The rule is consistent with that applied to foreign investment income: see 4.20 (Foreign income taxed on arising basis: income from Ireland). 7. Duties wholly performed outside the United The next relevant provision is s.132(2) ICTA 1988, which provides: Where an office or employment is in substance one the duties of which fall in the chargeable period to be performed outside the United Kingdom, then, for the purposes of Cases I and II of Schedule E, there shall be treated as so performed any duties performed in the United Kingdom the performance of which is merely incidental to the performance of the other duties outside the United Kingdom. In other words, UK duties may be ignored if they are Amerely incidental to the performance of the other duties outside the United Kingdom@.

6 What are incidental duties? The Revenue interpret this strictly: 5.7 Whether duties you perform in the United Kingdom are to your overseas duties depends on all the circumstances. If the work you do in the United Kingdom is of the same kind as, or of similar importance to, the work that you do abroad, it will not be merely incidental unless it can be shown to be ancillary or subordinate to that work. It is normally the nature of the duties performed in the United Kingdom rather than the amount of time spent on them that is important, but if the total time you spend working in the United Kingdom is more than 91 days in a year, the work you do will not be treated as incidental. Examples of duties which are normally not regarded as incidental are: B attendance at directors= meetings in the United Kingdom by a director of the company who normally works abroad B visits to the United Kingdom as a member of the crew of a ship or aircraft B visits to the United Kingdom in the course of work by a courier. 5.8 If the work you do in the United Kingdom has no importance in itself but simply enables you to do your normal work abroad, it may be treated as incidental. The decision will depend upon all the circumstances in your case. Examples of duties which are regarded as incidental are: B visits to the United Kingdom by an overseas representative of a United Kingdom employer to report to the employer or to receive fresh instructions

7 B training in the United Kingdom by an overseas employee as long as B the total time spent in the United Kingdom for training is not more than 91 days in a year, and B no productive work is done in the United Kingdom in that time. (IR 20 paragraphs 5.7 and 5.8). The statement is consistent with the only authority on this point, Robson v Dixon 48 TC 527. This concerned a pilot based in Holland whose thirty-eight landings in the UK over a five year period were not regarded as merely incidental to his overseas duties. The test therefore does seem to be one of quality and not quantity; the duties performed in the UK must be minor compared with the overseas duties and they must further the purposes of the overseas duties without having a character or importance of their own. 8. Case III charge

8 Employment income outside the scope of Case I can be taxed under Case III, which applies to: Any emoluments for any year of assessment in which the person holding the office or employment is resident in the United Kingdom (whether or not ordinarily resident there) so far as the emoluments are received in the United Kingdom. (s.19 ICTA 1988: Schedule E Case III). 9. Resident but not ordinarily resident employee This section considers the employee who is UK resident but not ordinarily resident. Such a person is outside the scope of Case I. This takes us to Case II which imposes tax on: Case II: Any emoluments, [a] in respect of duties performed in the United Kingdom, [b] for any year of assessment in which the person holding the office or employment is [i] not resident [ii] (or, if resident, not ordinarily resident)

9 in the United Kingdom, [c] subject however to section 192 if the emoluments are foreign emoluments (within the meaning of that section). See s.19(1); paragraphing added for convenience. The reference to s.192 is misleading as this section now provides no relief from Schedule E Case II. 10. Summary 10.1 Summary of position for resident and ordinarily resident employee The foreign domiciliary who is resident and ordinarily resident in the UK enjoys the remittance basis on employment income only if: (1) The employer is not resident in the UK; and

10 (2) The duties of the employment are wholly performed outside the UK (ignoring incidental duties). In other cases the income is taxed on an arising basis under Case I Foreign domiciled, UK resident but not ordinarily resident employee A foreign domiciled employee who is resident but not ordinarily resident in the UK pays income tax on an arising basis in respect of duties performed in the UK. He enjoys the remittance basis on all other employment income Non-resident employee The non-resident employee (wherever domiciled) pays income tax in respect of duties performed in the UK. There is no other tax charge. The matter can be summarised in this table:-

11 Non-resident Scope of Basis of Resident OR Not OR OR or not OR Assessment Assessment Case I Y N N Unlimited (unless case III) Arising Case II N Y Y UK duties Arising Case III Y Y N Foreign duties and Aforeign emoluments@ Remittance 11. How much of the emoluments are attributable to duties in the UK? SP 5/84 para 2 states: Where the duties of a single office or employment are performed both in and outside the UK, an apportionment is required to determine how much of the emoluments are attributable to the UK duties. Apportionment of

12 emoluments is essentially a question of fact, but for many years now the Revenue have accepted time apportionment, based on the number of days worked abroad and in the UK, except where this would clearly be inappropriate, and it is not intended to disturb this practice. For example, in the case of an employee with 200 working days in the UK and 50 working days outside the UK, the proportion of emoluments attributable to UK duties would be 200/250. Time apportionment would be inappropriate if there are different rates of pay in the two places of work, but the employee will need to provide evidence of this. 12. Dual contract arrangements Where an employee has duties which are performed partly within and partly outside the UK, the common strategy is for him to have two contracts of employment:- (1) Under one contract he would undertake the UK activities. The contract for UK duties will be chargeable on the arising basis under Case I. (2) The other contract would be in respect of his activities in the rest of the world. The contract for foreign duties will be excepted

13 from Case I and chargeable on the remittance basis under Case III. The employer must be non-resident. It would be tidier to have a separate employment with separate companies - even if they are members of the same group. This stops the Revenue arguing there is actually only one contract. But this is not essential. The attribution of income between the two employments is governed by statute: The amount of the [excepted] emoluments shall not exceed such proportion of the emoluments for that year from the relevant employment and the other employment or employments (if any) as is shown to be reasonable having regard to the nature of and time devoted to the duties performed outside and in the United Kingdom respectively and to all other relevant circumstances. See s.192(5) and Schedule 12 paragraph 2(2) ICTA The Revenue examine these arrangements closely. Schedule E Manuals set out the Revenue view:-

14 SE Foreign emoluments exception: dual contract arrangements Non-domiciled individuals sometimes come to work for United Kingdom resident employers. Depending on the length of their visit they may be Resident and Ordinarily Resident from the date of arrival. They may locate in London but the job may have European or global dimensions which requires foreign travel and the performance of duties outside of the United Kingdom. Emoluments from a single employment with duties performed inside and outside of the United Kingdom are chargeable under Case I, assuming that the employee is Resident and Ordinarily Resident. Even though the individual is not domiciled there is no exception from Case I. In the circumstances described above the employee may be offered two employments instead of one: A Employment 1 covering the performance of duties in the United Kingdom and A Employment 2, usually with an associated company resident offshore, covering duties performed in the rest of the world, excluding the United Kingdom. The two, or more, employments may require very similar duties to be performed. The only significant difference is the geographical areas in which those duties are carried out. The advantage to the taxpayer is that the emoluments from Employment 2 are excepted from Case I of Schedule E and are only chargeable under Case III if remitted to the United Kingdom. For this reason, dual contract arrangements are popular among non-domiciled employees assigned to work in the United Kingdom. Identification Taxpayers should complete a separate copy of the Employment Pages in the SA Return for each employment held during the relevant year. This includes the two or more employments held under a dual contract

15 arrangement. Employment Pages returning the second employment may only carry a statement of total emoluments paid or provided. If there has been no remittances in the year there will be a matching deduction in Box Action in Districts You may seek to establish that: A There are two (or more) employments in reality and not one employment that has been artificially divided to exploit the provisions of Section 192(2). A No duties under the Aoffshore contract@ have been performed in the United Kingdom If emoluments paid under the two (or more) contracts appear to be disproportionate you may consider invoking powers provided by Paragraph 2 Schedule 12 ICTA 1988 (applied to these circumstances by Section 192(5)). The legislation permits the Inspector to reapportion the remuneration on a commercial basis, to ensure that the amount paid in respect of UK duties is a fair proportion of the total remuneration from both or all associated employments. Where the facts of a case lead you to suspect that the provisions of Paragraph 2 Schedule 12 should be invoked, submit the papers to Personal Tax Division, Solihull., before taking any other action. Further guidance and information on dual contract arrangements may be obtained from the Personal Tax Division, Solihull. See example SE SE Dual contract arrangements: example A US citizen is employed by ABC Inc, a company resident in the US. The employee is assigned to work in London for a subsidiary company DEF

16 Ltd for a period of 5 years. It is estimated that 40% of duties will be performed outside of the United Kingdom, in Europe and the US. The employee relocates to London. In consequence of his intention to remain in the United Kingdom for 5 years he is Resident and Ordinarily Resident from the date of arrival but not domiciled. The employee is invited to structure the employments as described below: ABC Inc. This employment continues from before and throughout the period of the assignment. The letter of assignment specifies a list of clients and duties to be serviced and dealt with outside of the United Kingdom. DEF Ltd. The new employment commences with the employee=s arrival from the US. Duties specified in the contract include a portfolio of clients and line management responsibilities in the United Kingdom. The contract with ABC Inc is remunerated at a rate approximately 50% higher than that with DEF Ltd. Comments The employee is not domiciled in the United Kingdom. ABC Inc is not resident here but resident in the US. If the duties of this employment are performed wholly abroad then the emoluments will be excepted from Case I of Schedule E and only charged under Case III if they are received in the United Kingdom. Emoluments from DEF Ltd fall into Case I and are not excepted. If the employee was assigned to carry out one employment, but at a later date that was sub-divided to exploit Section 192(2), you may challenge and seek evidence that there are two employments in reality.

17 ABC Inc and DEF Ltd are within the meaning of Section 416 ICTA The disparity in levels of remuneration may require use of Paragraph 2 Schedule 12 ICTA. Seek advice from Personal Tax Division, Solihull. before taking action on points (3) and (4) above Implications for employer Inspectors Manual para provides:- Apart from the Schedule E implications there are other questions to consider:- A Is the cost of remunerating the individual under his contract for overseas duties effectively borne by a UK company and claimed as a deduction in computing profits which are chargeable to Corporation Tax? If so, there is a mismatch which will need to be considered with some care. A Do the individual=s activities under the contract for overseas duties generate income, and if so to whom does it accrue? Is income which would otherwise accrue to a company which is liable to Corporation Tax being routed to an overseas company? A If the profits of a company which is liable to Corporation Tax are computed on a cost plus basis are the costs being depressed by reason of the split employment? 13. The Schedule E remittance basis

18 Schedule E Case III imposes the charge on any emoluments received in the UK. Section 202A(1)(b) provides:- income tax shall be charged under Case III of Schedule E on the full amount of the emoluments received in the United Kingdom in the year in respect of the office or employment concerned. But this adds little to s.19. Section 132(5) ICTA 1988 is more significant: For the purposes of Case III of Schedule E, emoluments shall be treated as received in the UK if Athey are paid, used or enjoyed, in or in any manner or form transmitted or brought to, the United Kingdom.... These words are perhaps intended to extend the concept of Areceived in the UK@ beyond that which applies to the Schedule D remittance basis. Though it is arguable that the draftsman only had in mind a modern paraphrase of the antique language of the four sub-heads of Schedule D, Case V. There is no authority discussing these words. (The question was raised but left open in Harmel v Wright 49 TC 149.)

19 It is clear that most of the rules of the Schedule D remittance basis apply to the Schedule E remittance basis; and in particular the principle of Carter v Sharon 20 TC 229 apply, with the result that income transferred abroad to others may be remitted by them to the UK without any charge to tax. Section 132(5) also provides: subsections (6) to (9) of section 65 shall apply for the purposes of this subsection as they apply for the purposes of subsection (5) of that section. This brings in the deemed remittance rules. The Schedule E Manual provides at 40302:- Paid in the United Kingdom Emoluments are Areceived in the United Kingdom@ if they are paid to the employee in cash in this country or if the employee=s bank account here is credited with them. Employees may arrange to have emoluments paid into offshore bank accounts to avoid this rule. Money that is transmitted from the employer=s bank in the United Kingdom to the employee=s offshore bank is not treated as received here. It has been in the banking system all of the time; the employee did not have access to it.

20 This conclusion is correct, though the statement that the money has Abeen in the banking is layman=s language. 14. Claims No claim is required: a remittance basis for Schedule E Case III income is compulsory. This is probably deliberate as there are few circumstances where a taxpayer would wish not to make a claim. Compare 5.7 (Claims). 15. Chattels purchased out of employment income and brought to UK If employment income is applied in the purchase of assets which are brought to the UK, it is suggested that the income has been transmitted to the UK Ain some manner or form@. This is the Revenue view: Schedule E Manual 40302:- Assets If an employee receives emoluments abroad but then uses them to purchase assets such as a car or a painting and then brings the assets into

21 the United Kingdom the cost of the assets is regarded as an amount assessable under Case III. This is also supported by an obiter comment of Carnwath LJ; Grimm v. Newman [2002] STC XXX, para Contrast this with the Schedule D remittance basis: see 5.23 (Remittance of chattels in specie). 16. Remittance after employment ceases Section 19(4A) and s.202a ICTA 1988 frustrate attempts to exploit the source doctrine for Schedule E purposes. These provisions cause the charge under Schedule E Case III to be on the full amount received in the UK in the year of assessment whether or not the employment is held at the time of the remittance. Again, this may be contrasted with the more favourable position under Schedule D: see 5.46 (Source ceasing principle). 17. Remittance when not UK resident However, to be chargeable under Case III, the emoluments must be in respect of a year of assessment in which the employee was resident in the UK. Accordingly, any emoluments earned for a

22 year during which the employee was not UK resident can be remitted at any time without any charge to tax. 18. Remittance after acquisition of United Kingdom domicile Where: (1) A foreign domiciliary retains Schedule E Case III income abroad. (2) He acquires a UK domicile. (3) He subsequently remits the income. The income is still taxable. This is plain from the wording of Schedule E Case III. Section 202A ICTA 1988 provides:- (1) As regards any particular year of assessmentc

23 (a) income tax shall be charged under Cases I and II of Schedule E on the full amount of the emoluments received in the year in respect of the office or employment concerned; (b) income tax shall be charged under Case III of Schedule E on the full amount of the emoluments received in the United Kingdom in the year in respect of the office or employment concerned. (2) Subsection (1) above appliesc (a) whether the emoluments are for that year or for some other year of assessment; (b) whether or not the office or employment concerned is held at the time the emoluments are received or (as the case may be) received in the United Kingdom. Contrast the position for Schedule D Case V income; see? (remittance after acquisition of UK domicile). 19. Remittance after death of employee The draftsman has even provided for this case. Section 202A continues:- (3) Where subsection (1) above applies in the case of emoluments received, or (as the case may be) received in the United Kingdom, after the death of the person who held the office or employment concerned, the charge shall be a charge on his executors or administrators; and accordingly income taxc

24 (a) shall be assessed and charged on the executors or administrators, and (b) shall be a debt due from and payable out of the deceased=s estate. If executors receive Case III emoluments in the UK, there is a tax charge. If they receive emoluments out of the UK and assent to beneficiaries, there is no charge. 20. Mixed Schedule E Case II and Case III emoluments Statement of Practice 5/84 explains:- SP 5/84 (28 March 1984) Employees resident but not ordinarily resident in the UK: liability under Schedule E Cases II and III 1 An employee resident but not ordinarily resident in the UK is liable to UK tax under Schedule E Case II, on emoluments wherever received for duties performed in the UK. He is also liable under Schedule E Case III, on emoluments for duties performed outside the UK but only to the extent that they are received in or remitted to the UK Where an employee resident but not ordinarily resident in the UK performs the duties of a single office or employment both in and outside the UK and is remunerated wholly abroad, he is permitted, by a broad interpretation of the decision in the case of Sterling Trust Ltd v IRC 12 TC 868, to say that any remittances made to the UK are made primarily out of emoluments for that year in respect of duties performed in the UK

25 assessable under Case II, and only any balance out of emoluments assessable on the remittance basis. 4 However, where part of the emoluments have been paid in the UK, or benefits have been used or enjoyed in the UK, it has been the practice of the Revenue to regard the proportion of emoluments paid, used or enjoyed in the UK, as in respect of duties performed both in and outside the UK, and to treat that proportion of such emoluments as is attributable to duties performed outside the UK as Areceived in@ the UK for the purposes of Case III. 5 The Board of Inland Revenue has now decided that the procedure should be simplified for employees whoc (a) are resident but not ordinarily resident in the UK; (b) perform duties of a single employment both in and outside the UK, so that they are potentially liable under both Schedule E Cases II and III, in respect of emoluments from that employment; and (c) receive part of their emoluments in the UK and part abroad. In such cases, provided the emoluments assessable under Case II are arrived at in a reasonable manner (ie in the presence of special facts, the proportion of the emoluments, including benefits in kind, relating to UK duties is arrived at on a time basis by reference to working days), the Revenue are prepared to accept that Case III liability will arise only where the aggregate of emoluments paid in, benefits enjoyed in, and emoluments remitted to, the UK exceeds the amount assessable under Case II for that year; and to restrict the Case III assessment to the excess of the aggregate over the Case II assessment. 21. Foreign service exemption for termination payments

26 Termination payments are subject to tax under Schedule E paragraph 5, so the Case III rules (which apply to paragraph 1) do not apply here. When a foreign domiciliary comes to the UK having worked for an overseas employer for a number of years, he may receive a termination payment after his arrival in this country. This would ordinarily be chargeable under Schedule E by s.148 ICTA 1988 to the extent that it exceeds,30,000. However, Schedule 11, paragraph 8 provides a territorial exemption. Exclusion or reduction of charge in case of foreign service 9C(1) If the employee=s service in the employment in respect of which the payment or other benefit is received included foreign service, thenc TA 1988, 11 SCH 9 (a) in certain cases, tax is not charged under section 148 (see paragraph 10); (b) in other cases the amount charged to tax is reduced (see paragraph 11). (2)@Foreign service@ for this purpose meansc (a) service in or after the tax year such thatc

27 (i) the emoluments from the employment were not chargeable under Case I of Schedule E (or would not have been so chargeable, had there been any), or (ii) a deduction equal to the whole amount of the emoluments from the employment was or would have been allowable under paragraph 1 of Schedule 2 to the Finance Act 1974, paragraph 1 of Schedule 7 to the Finance Act 1977 or section 192A or 193(1) of this Act (foreign earnings deduction); (b) service before the tax year such that tax was not chargeable in respect of the emoluments of the employmentc (i) in the tax year or later, under Case I of Schedule E; (ii) in earlier tax years, under Schedule E. 10 Tax is not charged under section 148 if foreign service comprisesc TA 1988, 11 SCH 10 (a) three-quarters or more of the whole period of service down to the relevant date, or (b) if the period of service down to the relevant date exceeded ten years, the whole of the last ten years, or (c) if the period of service down to the relevant date exceeded 20 years, one-half or more of that period, including any ten of the last 20 years. 11C(1) Where there is foreign service and paragraph 10 does not apply, the person chargeable to tax under section 148 may claim relief in the form of a proportionate reduction of the amount charged to tax. The amount charged to tax means the amount after any reduction under paragraph 7 (application of,30,000 threshold).

28 (2) The proportion is that which the length of the foreign service bears to the whole length of service in the employment before the relevant date. (3) A person is not entitled to relief under this paragraph in so far as the relief, together with any personal relief allowed to him, would reduce the amount of income on which he is chargeable below the amount of income tax which he is entitledc (a) to charge against any other person, or (b) to deduct, retain or satisfy out of any payment which he is liable to make. (4) For the purposes of sub-paragraph (3)C (a) Apersonal relief@ means relief under Chapter I of Part VII; and (b) the amount of tax to which a person is or would be chargeable means the amount of tax to which he is or would be chargeable either by assessment or by deduction. A payment satisfying the above conditions can be remitted free of income tax to the UK. It is a moot point whether the payment may give rise to CGT, but it may be that in practice the Revenue do not take that point. Here is information on how to order this book and other books by James Kessler QC. Home