One of the primary reasons many business owners choose to incorporate their businesses and become a limited company rather than a sole trader is to benefit from the limited liability it brings.
A limited company is a separate legal person, so if the business fails its debts are normally the company’s, not the directors’. The exceptions are a personal guarantee you have signed and liabilities the law places on directors, such as for wrongful trading or misfeasance.
However, in the case of limited company tax liabilities such as VAT, PAYE, National Insurance contributions and corporation tax, company directors can be made personally liable in certain instances if payments are not made.
When can Company Directors be made Personally Liable for Unpaid tax?
It is not unusual for companies that are in financial distress to accumulate VAT, PAYE and National Insurance contributions arrears. It’s often the case that struggling companies do not make a profit, which makes corporation tax arrears less common.
Ordinarily, if the company were to become insolvent, HM Revenue & Customs (HMRC) would not be able to recover the unpaid tax from the company directors personally. However, HMRC can make a director personally liable through a small number of specific routes, and each has its own conditions. HMRC can recover unpaid National Insurance from a director where the company’s failure to pay is attributable to that director’s fraud or neglect. The company stays liable for it. Up to the whole of a penalty can be recovered from a director where a deliberate inaccuracy is attributable to them. A joint and several liability notice under Schedule 13 to the Finance Act 2020 can make a director liable for the company’s tax itself where the company has used tax avoidance or evasion, is in an insolvency procedure or there is a serious possibility that it will be, and there is a serious possibility that the tax will not be paid. That route also needs the director to have been responsible for the avoidance or evasion, to have taken part in it, or to have received a benefit they knew, or could reasonably be expected to know, came from it. A notice can also follow repeated insolvency, with no fraud or neglect needed. That applies where, in the five years before the notice, at least two companies you were connected with entered an insolvency procedure owing tax or with tax returns outstanding, and you were also connected with a new company carrying on the same or a similar trade. The old companies’ tax debts must total more than £10,000 and more than half of their unsecured debts. This notice makes you liable for the new company’s tax, now and for up to five years, and for tax the old companies still owe.
Two things often described as HMRC powers are not. Paying yourself dividends the company had no distributable reserves to pay, or paying family and friends ahead of HMRC, are matters for a liquidator rather than for HMRC. The first is an unlawful dividend, recoverable from you. The second may be a preference under section 239 of the Insolvency Act 1986. Both can leave you paying money back, and HMRC as the largest creditor will often be the one pressing for it, but only the office-holder can bring a preference claim, and both are decided on company and insolvency law rather than tax law. In a winding up, a creditor such as HMRC can also ask the court to order repayment of an unlawful dividend as misfeasance, though the liquidator normally brings that claim. The tax routes below are separate, and each has its own conditions.
Directors Liability for HMRC Debts
VAT
Two different powers get called personal liability for VAT, and they reach different amounts. Where a penalty is charged on the company for a deliberate inaccuracy and that inaccuracy is attributable to an officer, paragraph 19 of Schedule 24 to the Finance Act 2007 lets HMRC recover up to 100 per cent of the penalty from that officer. That is the penalty, not the tax. Separately, where there is avoidance or evasion and the company is insolvent or heading that way, HMRC can give a joint and several liability notice under Schedule 13 to the Finance Act 2020, which makes the person jointly and severally liable with the company for the tax the avoidance or evasion produced, so HMRC can pursue them for the whole of it. That notice is not limited to VAT. Another power HMRC has in relation to VAT liabilities is to demand VAT security for any future businesses the director of the insolvent company is involved in. That VAT security can represent a significant sum of money, which can make it difficult to start a new business.
PAYE
Under regulation 81 of the PAYE regulations, where a determination against the employer under regulation 80 is still unpaid 30 days after it became final, HMRC can direct that the employer is not liable and that the employee pays the tax that should have been deducted. That needs one of two things. Either the employee received the payments knowing the employer had wilfully failed to deduct, or the tax is on a notional payment treated as made to the employee under regulation 62(5). In an owner-managed company that employee is normally the director, which is why it is thought of as a director power. It reaches the tax on their own payments, not the whole PAYE bill. For that reason, this power is usually applied in small owner-managed businesses where the director has control over the company’s finances.
National Insurance Contributions (NICs)
Section 121C of the Social Security Administration Act 1992 lets HMRC recover National Insurance contributions that the company is liable to pay, with the interest and penalties that go with them, from an officer of the company where the failure to pay is attributable to that officer’s fraud or neglect. Unlike the PAYE direction, it is not confined to the officer’s own pay: the notice covers the whole of the unpaid contributions, with interest and penalties, where HMRC considers there is no other culpable officer. Where there is more than one culpable officer, each notice covers the proportion that reflects that officer’s culpability. It applies to National Insurance only.
A personal liability notice (PLN) is the document HMRC serves to make a director personally liable for a specified sum of the company’s unpaid contributions. The company stays liable, and whatever the director pays reduces the company’s debt. It will specify the amount of NICs the director is personally liable for; the penalties and interest that apply, and any statutory interest payable on the debt.
Corporation Tax
If a business is struggling financially then, generally speaking, it will not be making a profit and no corporation tax will have to be paid. Some struggling companies do build up corporation tax debts, and HMRC will enforce against the company in the usual way. There is no general power to move a corporation tax debt onto a director. Where a person is made liable it is through a named route: a joint and several liability notice under Schedule 13 to the Finance Act 2020, or the officer liability in paragraph 19 of Schedule 24 to the Finance Act 2007 where a penalty for a deliberate inaccuracy is attributable to them. Payments made to directors instead of HMRC are more likely to surface as a liquidator’s claim: an unlawful dividend, a preference, or an overdrawn loan account.
Need advice?
If your limited company is struggling financially and you have unpaid tax debts the business cannot pay, we’d advise you to contact our team immediately. Any initial consultation is completely free and we can help you consider all the options available to you. To find out more, contact AABRS® today.