Managed service company legislation rears ugly head

12th May 2023
Written by Qdos Contractor

Managed service company (MSC) legislation in the spotlight following appeal fail

HMRC’s compliance activity regarding the Managed Service Company legislation has up until now been somewhat low key, however, this all changed recently with the recent Tribunal case involving Costelloe Business Services (CBS), who were deemed to be a Managed Service Company Provider, in the Court of Appeal, following defeat at the Tax Tribunal in 2016.

The definition of a "managed service company" is contained in s 61B of ITEPA (inserted by the Finance Act 2007). The provisions took effect from 6 April 2007.  In HMRC’s Employment Status Manual, the meaning of an MSC is as follows;

  • A company whose business consists wholly or mainly of providing, directly or indirectly, services of an individual to third-party clients.
  • The individual (worker) supplying their services to the third-party client receives payments (or an aggregate of payments and benefits) from the service company equal to the greater part of the sums received by the service company from the client for the services provided by the worker.
  • The payments received by the worker are greater than they would have received if all of the payments were treated as employment income of the worker relating to an employment with the service company.


As CBS were determined to be a Managed Service Provider, all individuals operating through that business are effectively managed service companies, whose income will be reclassified as employment income. The legislation for a contractor therefore has a similar effect to IR35, however the MSC legislation contains debt transfers provisions, whereby if the contractor cannot meet its tax liabilities the debt can be transferred to;

  • The director, or other office holder or associate of the MSC
  • The MSC Provider or the director, or office holder or associate of the MSC Provider
  • Any other person who directly or indirectly has encouraged or been actively involved in the provision by the MSC of the services of the individual, or a director, or other office holder or associate of such a person.


The legislation is therefore feared by many and rightly so, due to the debt transfer provisions which leave those involved, (even those indirectly), exposed to significant financial liabilities.  For the legislation to apply the Managed Service Provider (MSCP) has to be what is termed as ‘involved’ with its managed service companies.


HMRC define being “involved” by reference to one of five activities;

  • benefiting financially on an ongoing basis from the provision of the services of the individual who provides those services through an MSC
  • influencing or controlling the company’s finances or any of its activities
  • influencing or controlling the provision of the services of the worker
  • of influencing or controlling the way in which payments to the worker or an associate are made
  • giving or promoting an undertaking to make good any tax loss


What were the activities of CBS?

The services provided by CBS consisted of charging an ‘annual fee’ but only for work done i.e. if no work was carried out no fee was charged. CBS deducted tax etc. from the Directors of the PSCs many months in advance (up to 19) of paying the monies to HMRC and retained monies in a bank account earning interest. CBS alone controlled the bank accounts, the directors of the PSCs had no access to them. CBS dictated who the PSC company secretary should be, where the registered office should be and what the pay structure should be for the PSCs.

CBS did benefit financially on an ongoing basis from the services provided by the owners of the PSCs as the fees that were charged related to the number of payments received by the PSCs rather than the number of times that CBS had to run a payroll or produce a payslip.

CBS earned interest on the tax/NIC deducted from the earnings of the PSCs that were held in a bank account that it controlled and that the PSCs had no access to the monies being held for up to 19 months in advance of CBS paying to HMRC.

CBS determined that any surplus funds over and above the salary paid to the owners of the PSCs would be paid by way of a dividend and as such CBS controlled or influenced the way in which payments from the PSCs were made to each individual director.

CBS influenced the manner in which the PSCs paid their taxes. CBS would receive an email notification when a payment was made into one of its client’s CredEcard accounts. The amount of taxes would then be deducted by CBS every time a payroll was processed. The result was that the PSCs paid away amounts in respect of taxes well before the statutory due dates for payment to HMRC. In the Tribunal’s view, the acceleration of the appellants’ tax payments constituted CBS influencing their finances.

CBS controlled its clients’ money deducted in respect of taxes pending the payment of that money to HMRC because that money was in CBS’s bank account earning interest (without the knowledge of its clients) for CBS.


The Court of Appeal decision was unanimous.

The Tribunal found that Costelloe Business Services were indeed an MSC. Consequently, the 5 appellants (who had operated through CBS) appealing the case were managed service companies. In reaching its decision the Tribunal referred to the 2006 consultation document on ‘Tackling Managed Service Companies’ which stated;

“2.12. In an MSC scheme, the worker obtains work engagements usually via an agency in the normal way. The worker usually takes no part in the ongoing management or financial control of his MSC and is typically not a director of the company (but rather a worker-shareholder). Instead, the MSC scheme provider handles payments between the agency and the MSC deducting a fee for the work it carried out and arranging for the payment of the worker. The worker is often unaware of the details of the arrangement and its implications.”

Following this success, it would seem that HMRC are increasing their compliance activities regarding the Managed Service Company legislation and we are aware that a number of MSC enquiry letters have recently been sent to contractors. Should you be in receipt of one of these letters, please do not hesitate to contact Qdos and we will be happy to advise you on the best course of action.

Qdos Contractor
Written by
Qdos Contractor
Award-winning providers of insurance for the self-employed, Qdos are the leading authority on IR35, offering industry-leading employment status services to ensure the flexible working industry thrive. Qdos are the Best Contractor Insurance Provider 2022 and won the Queen’s Award for Enterprise in Innovation 2022 and 2017. 

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