Feature

posted 14 Jun 2004 in Volume 9 Issue 4

Paying family carers: Income tax and national-insurance issues

A child receives compensation for a serious personal injury that was so catastrophic that a receiver has been appointed by the Court of Protection to handle his personal affairs. Perhaps there are trustees in place who are entrusted with handling the compensation. The parents must act as full-time carers for their child who needs 24-hour support. In recognition of this hard work, the Court of Protection or the trustees authorise payment to them of £12,000 each and every year. Imagine how they feel when a bill for income tax and national insurance lands on their doormat? David Coldrick and Mohammed Asif consider whether it is legally correct for a tax bill to be submitted and how the practitioner should respond.

Care payments to family members: Important preliminary considerations

In the author’s experience, some families of victims of personal injuries appear to rely too heavily upon the compensation fund resulting from the particular trauma. This might at first seem a rather insensitive, even brutal, suggestion especially when not referring to a situation involving obvious financial abuse. Most cases involving over-reliance or an unhealthy level of financial dependency contain no element of financial abuse. But it must be remembered for whom the award was made and that the compensation is not ‘family money’. That is excepting so far as paid care from within the family is carefully assessed as being the most suitable option for the compensated person.

Familial over-reliance upon a compensation fund is most likely to occur when family members are acting as carers. Full-time care and being permanently ‘on-call’ in the vicinity prevents remunerative work outside the home. Going out to work might help provide an independent, external source of financial support for the carers, which would reduce reliance upon the compensation fund. Despite the advent of working at home using a computer, the wonders of e-mail and the internet, it is still problematic in practice. Home working also assumes that carers thrust into their role by accident of family association have the necessary skills, aptitude and inclination for such work. The care provided within the family is often more than full-time occupation anyway.

External work or home-working in those cases is just a fanciful notion. It is, therefore, not surprising that the claimant’s compensation might become treated as ‘family’ money. In fact, the compensation might even become ‘the’ family money there being no other significant source. The natural result is that the compensation fund runs down rather too quickly or even runs out before the compensated person dies. The question of exactly who needs what and why and who should pay inevitably leads to a clear pointer hovering over the compensation fund. It should not inevitably point in that direction. If it does then that is a good warning signal to the alert professional who may then subtly or less subtly as the case demands take the appropriate steps to help reduce that over-reliance.

The Court of Protection is content to authorise payments to be made to family members when funds are held in court to provide necessary support. Trustees of a personal injury trust containing an award of compensation should be no less willing. It should, however, be borne in mind that an appropriate degree of support for paid family carers should not translate into over-reliance or an inappropriate degree of financial dependence, which can undermine the self esteem of carers and cut off both the carer and the cared for from healthy external social interaction with third parties. It can also create an unusually introverted family situation both in finances and social relations. It is submitted that in the decision-making process, over payments to family carers, both receivers and trustees should remember that the compensation payment will probably have contained a significant element for the payment of future care by persons outside the family. Receivers and trustees need to be discerning when assessing which of the needs of the compensated person are appropriately met from within the family and which are more appropriately met by third parties. Any propensity on the part of a family to take too much upon themselves, perhaps through simply forgetting to look outside for help, should be resisted, as should any inappropriate ‘hoarding’ of the compensation. By this it is meant that money paid as compensation to facilitate external care provision should not instead be preserved by being replaced with family care, even if this is essentially provided for free. It is often assumed that this is always better for the compensated person because of the saving made. But that saving might be in the hope that if the compensated person dies this will enhance the anticipated windfall inheritance of the surviving family. It happens but it is an inappropriate motivation, which potentially denies the compensated person valuable interaction with highly skilled care professionals.

Great sensitivity is required by the professional adviser in examining all the circumstances and in making sure that a proposed care plan is suitably well balanced with both family and external care being used as appropriate. The needs of the compensated person should always provide the lead as to who should provide the care and who should be paid what for providing it.

Care payments and accommodation for family members: Income tax

Payments made by or on behalf of a compensated person to family carers can potentially have income-tax consequences. These consequences are frequently overlooked or even deliberately ignored. That is unwise even though it is submitted that generally such payments should not have any income-tax consequences.

The author’s submission that payments to family carers should not normally have any income-tax consequences is not limited to where a payment is made to a family carer by way of re-imbursement for monies expended. That situation has no relevance for income-tax purposes. A reimbursement is simply not income. It is a refund.

Where reimbursement is not the nature of the payment being made, receivers or trustees may sometimes become employers with family carers becoming their employees. As an alternative, receivers or trustees may become a contracting party with family carers who are self employed. Any such legally recognised relationship entails administrative complexity, additional rights and responsibilities and a loss to the compensated person or their family by way of income tax payable.

The law is unhelpfully complex and each situation involving family carers is different. It is not satisfactory to assume that money paid for care provided by family members must be as a result of either employment or self employment. Nor is it right to assume that the income-tax consequences of such a relationship must follow. A pragmatic approach should be taken by the adviser and local tax offices. Some explanation and negotiation may be necessary with the Inland Revenue because the situation is unusual.

While not claiming to be a comprehensive analysis, the rudiments of the income-tax position of family carers supported by payments from receivers and trustees are outlined below.

Self-employed family carers?

An income tax liability may arise where there is a contract of service – the self-employment situation. Where a person is self employed, income tax is due under Schedule D1 (for trades) or D2 (for professions) of Income and Corporation Taxes Act 1988 (‘ICTA 1988’).

There is little practical difference between D1 and D2. But D1 requires a ‘profit motive’ or ‘adventure’ in the old ‘merchant adventurer’ sense of the word. In the context of a family carer, it is worth noting that this profit motive is most unlikely to exist and thus assessment under that Schedule may be resisted.

The provision of care recognised by a payment may have the potential to be treated as representing membership of a taxable self-employed profession. Caring for the compensated person potentially involves the use of relevant skills and expertise inherent in a profession. An assessment under Schedule D2 is therefore perhaps the most likely basis of a claim for income tax.

However, a person thrust into a caring role by reason of familial proximity and moral obligation is not a professional carer in the true sense. They neither chose nor wanted it, and usually do not wish to profit from it. To import a sort of professional calling into this set of facts is submitted to be one step too far. While historically, professionals claimed a calling as their motivation and not the pursuit of ‘filthy lucre’, most modern professionals are looking to earn a good living and some are entirely motivated by money. To this extent, the dichotomy between D1 and D2 might be regarded as false and even anachronistic. Even if D2 does not specifically import the requirement of a profit element, all income must involve some element of profit. This is radically different from the situation where, for instance, a parent sets aside their job and their life goals to care for their child because they consider that other care would not be as helpful to the child. There is distinctly no ‘profit’ in that.

For Schedule D to apply there must be a contract of service. It is submitted that this is unlikely to exist in the context of a family carer. That is wherever the payment in recognition of that care arises from. The complex issue of the existence of a contract is addressed below in the sub-section dealing with employed family carers. While that sub-section deals with a different type of contract the key issue is not as to type of contract but as to its existence or not.

If a carer is (for whatever reason) classified as being subject to income tax arising from self employment, this liability can be paid later than under the pay-as-you-earn system for employees. In addition, there is scope to mitigate the income-tax liability by introducing an intervening corporate structure between the contracting parties. The Inland Revenue has responded to this ‘abuse’ by introducing ‘IR 35’. This piece of secondary legislation puts those self-employed people caught by its ambit in (roughly) the same tax position as employees. In reality, most carers (‘working’ only for the one party) will be caught by IR35 if they attempt to argue that they are self-employed.

Employed family carers?

For those readers familiar with it, ‘Schedule E’ has been replaced. Replacements are rarely as memorable as the originals. Under Section 5 of Income Tax (Earnings and Pensions) Act 2003 (‘ITEPA 2003’) income tax is charged on ‘employment income’. Employment is defined as ‘general earnings’ and as ‘specific employment income’ (all defined terms under Section 7 of ITEPA 2003).

General earnings relates to emoluments (and amounts treated as emoluments) formerly charged under S19(1) of ICTA. ‘Earnings’ means:

Any salary, wages or fee;
Any gratuity or other profit or incidental benefit of any kind obtained by the employee if it is money or money’s worth;
Anything else that constitutes an emoluments of the employment (Section 62 ITEPA 2003). ‘Employment’ is defined at Section 4 of ITEPA 2003 and includes (but is not limited to):

Any employment under a contract of service;
Any employment under a contract of apprenticeship;
Any employment in the service of the crown.

Section 4 ensures the application of the charging provisions to holder of ‘offices’.

It is crucial, therefore, to ascertain whether or not there is a contract of service (for that is the main heading the reader will be concerned with in the present context).

Contracts for services or of employment can be created orally, in writing or by implication based upon action undertaken. But there must be a contract between the carer and A.N.Other for the provisions relating to the taxation of income to apply, just as there must be such a contract for Schedule D to apply. Otherwise the payment made is not taxable.

Where there is a payment linked with work prima facie there is a contract. Otherwise why do the work? Normally that will generate no surprise. The money promised for the work is the motivation for it. No deal, no work is done. But in the context of a person compensated for a serious injury who is assisted by family members, the usual contractual situation which creates the “employment income tax” liability rarely applies. And the same principle applies to the contract required to trigger a Schedule D liability.

To the question ‘why do the work?’ or ‘why care?’ the answer in the context of a compensated person who is cared for by family members will broadly be encapsulated in the word ‘family’.

What does this mean?

1. The concept of a contract requires ‘an intention to create legal relations’ between the contracting parties. That intention is not readily inferred in a family situation as a matter of law. It should not, the author submits, be necessary to detect a contractual relationship in the family situation. Simply because care has been made available and payment follows there need not be a contract. A contract was not the thing that secured the care. It was, to use an old legal phrase, ‘natural love and affection’;

2. Imagine the situation where a child is injured. From the date of the incident the parents commit extra time to their care. They may give up their current work or suffer reduced prospects as their time is reallocated to care for their child. While the compensation claim is being processed the care continues. After it is granted their care continues. The receiver or trustees, recognising the fundamental importance of the care provided, can then make regular payments to help support the parents. It is clear that the care pre-dates the payments. If the receiver or trustees decided to stop those payments the care would undoubtedly continue;

3. The receiver or the trustees making the payments to the carers are simply recognising the need to support a pre-existing, non-contractual situation, so it can be made to work in the most efficient manner. The parents are neither employed nor employees;

4. The family-type arrangement invariably remains an informal ‘woolly’ arrangement. It is not easily put in the normal contractual box as to job description;

5. There are a number of practical points that betray the lack of any contract:

o The carers work can contain practically anything at any time. Contracts involving care would naturally involve a job description;

o Carers do not have specially agreed hours, breaks or holidays;

o There is often little demarcation of work type if there are multiple family carers;

o There is no real ‘boss’. If the receiver or trustees making the payments attempted to dictate care arrangements they would be likely to be given short shrift;

o There is no ‘hire and fire’ relationship. There is no person ‘taking the carer on’ and no person who can ‘lay them off’;

o The law could not enforce the provision of the care provided by the family carer as it is voluntary. The receiver or trustees could not obtain damages for breach of contract if care was discontinued as there is no contract. They could if there was a contract;

o The lack of clear terms undermines the possibility that there is a contract. Contracts need to be reasonably certain or well defined in their content;

o Above all else, perhaps the fact that care pre-existed payment and would survive non-payment indicates the lack of any contract;

o All these factors make it clear that this is not even remotely like the highly flexible situation that might arise in a family business. Those situations may be highly flexible but there would be no business left if they were operated in the same way as the family carer situation. A little digging under the surface would reveal a profit motive, a boss and some terms including ‘no pay equals no work’.

In short, ‘family’ in the context of payments to family carers means that there is nothing to indicate a contract of any sort. The care ‘just happens’ and payment is in recognition of it happening but is not its causation. It is a support payment not a contractual payment.

Furthermore, for a payment to be taxable as employment income it must also be a ‘profit from employment’. In the case of Hochstrasser v Mayes (HL 1959 38 TC 67) it was held that “…the payment must be in reference to the service the employee renders by virtue of his office, and it must be something in the nature of a reward for services past, present or future”. In most cases, a family carer is not either seeking or expecting a ‘reward’ for their services. They are just doing it voluntarily and if no payment was made they would invariably still do it.

Taxation of the value of family carer’s living accommodation

A person liable to income tax as an employee (but not a self-employed person) may also have a potential liability to pay tax under Sections 102 ITEPA 2003 (formerly Section 97 and 145 of ICTA) for the ‘living accommodation’ provided ‘by reason of his employment’.

A compensated person may own a new ‘family home’ because larger awards often cover the provision of a suitably adapted property. It may, for example, be owned by way of a bare trust with the parents acting as trustees for an injured child agreed by the Court of Protection. Alternatively, it may be owned as part of the trust fund of a personal-injury trust not restricted to the family home. The provision of accommodation is usually taxable unless an exemption applies. It is likely that where a resident family member is providing care and is, for some unusual reason, taxable under Sections 97 and 102 of ITEPA 2003 one or other exemption will apply to prevent their being taxed on the value of the accommodation. The exemptions to the general rule rendering accommodation taxable are that:

Residence is necessary for the proper performance of the employee’s duties. This is inevitable in cases involving 24-hour care;
The type of employment customarily comes with accommodation for the better performance of the employee’s duties. By way of case law, this already includes police, prison staff, ministers of religion, diplomats, managers of newsagents operating newspaper deliveries, managers of off licences, vets and some managers of camp sites. By logical extension it should also exempt carers;
The employer is an individual and the provision of accommodation is made in the normal course of their domestic, family or personal relationships. Once more this is a highly promising exemption for use by carers.

Taxation of care payments under Schedule D Case VI or as unearned income

There is also the remote possibility of the application of Schedule D Case VI to payments to family carers. That is the payment would be treated as taxable as ‘miscellaneous income’. Under this schedule income tax is payable on annual profits or gains not falling within the rest of Schedule D or under any other Schedule.

It should be noted that, as with the other schedules, the income to be taxed should have that special quality ‘profit’, which proves so elusive in the context of the family carer. It crops up again here because this is the key to what is actually being taxed throughout the system.

The long historical development of the income-tax system has created many sets of terminology and to a degree, the student of income tax can easily lose sight of the tax man’s objective. It is particularly important to bear this in mind when dealing with the nebulous Schedule D VI.

It is submitted that payments received by family carers are not readily assessable as either profits or gains. They are either simple transfers of funds between family members or payments by receivers or trustees in the nature of appropriately made gifts. ‘Appropriately made’ being vis the compensated person who benefits from that care who would wish them to receive it in the light of the benefit they receive from the care given. But that is without creating a contractual situation.

Gifts made in recognition of care given are not payment for it. The payment may be in recognition of care happening but is not its causation. It is a support payment not a contractual payment. If the gifts ceased the care would invariably continue. The reason for the care is back to ‘family’ again.

It is also submitted that this tax provision was simply not designed to cover situations where care is given by family members. It is designed to catch unusual methods of payment where there is a profit from contractual relationship. That is however awkward that profit might be to take and however obscurely that contract might be operated.

Having dispensed with the possibility of income tax under D VI this leaves other forms of unearned or investment income. The most important categories are:

Schedule A. That relates to property - rent. This is not relevant. There is no return from property involved in the payment to the carer;
D3. That relates to interest. The payment to a carer is not interest. There is nothing held by the compensated person that is owed to the carer requiring such a payment;
D4. That relates to foreign securities. This is not relevant;
Schedule F. That relates to dividends. That requires a company distributing its profits. This is not relevant.

At this point it is submitted the even the most terminally challenged Inland Revenue officer will have run out of ideas for bringing an income tax charge to bear on a family carer.

The income tax liability of family carers

The author’s opinion is that even if the receiver who arranges the family carer’s payment or the trustees who arrange the family carer’s payment are not themselves family members, a contract of service or of employment should not be any more readily inferred than if they were. To suggest the reasoning in the sub-sections above is applicable to situations where family members alone have a role to play as receivers or trustees is submitted to be incorrect.

It is the causation of the care, dictated by the family relationship between the family carer and the family member receiving their care, which dictates whether or not any payment made which is linked with that care should or should not be taxable. This is an unusual situation outside the usual concept of contracts for service and of employment and must be treated accordingly.

Because of the relevant logical application of the tax rules the author submits that family carers should almost invariably not be liable for income tax on payments made to them relating to their provision of care.

The alternative to family care provision may be buying in care. That may bring suitably qualified and talented people into the life of the compensated person but equally it may be practically difficult to arrange. It may be far more, even prohibitively, expensive and less helpful overall to the vulnerable person than family care. Thus there are good public-policy as well as common-sense reasons for taking an approach where family care is not subject to income tax.

Care payments for family members: National insurance

Another issue for receivers and trustees to consider when making payments to family carers is that of national insurance contributions. If there is no contract then there should be no national insurance to pay. This sounds simple, but follows the complexities of legal reasoning referred to above.

If a carer is an employee then the employee will pay class 1 national insurance contributions and their employer will pay class 1a national insurance contributions. If a carer is self employed they will pay class 2 and class 4 national insurance contributions. These are less onerous than class 1 contributions.

Even if there were a contract of employment then close family members are exempted from the relevant national insurance regulations. There is no ‘business’ as such. That is at least so long as the ‘place of work’ is the same residence in which the relevant parties all live.

The author feels that while the receivership or trusteeship situation are not explicitly contemplated by the regulations that is to import an over-strict interpretation. That is especially as the exemption would apply if all the relevant trustees were family members. Furthermore, where a bare trust or receivership situation operates, the compensated person’s position of having to operate with help should not be made to prejudice their tax position.

If an actual ‘carer type’ business is carried on, perhaps involving services for other people outside the family as well as within it who have special needs, then the exemption does not apply. See Statutory Instrument 1978/1689 The Social Security (Categorisation of Earners) Regulations. (Paragraph 7. Column 7. Part III Schedule I)

Even if no national insurance is payable the carer, not being either an employee nor self employed, may wish to make voluntary contributions (class 3 national insurance contributions) to secure their full pension entitlement. In an age of ever more difficult pension provision this is an important point.

The income tax and national insurance liability of family carers

In summary, it is the author’s opinion that family carers (in the widest sense of ‘family’ being ‘what does as is’) should not be subject to income tax or national insurance upon amounts paid to them for care by the Court of Protection through the receiver’s account or from a personal injury trust fund. There is no contract upon which such taxation can be based.

An example of a letter to a local tax office in a typical situation where a child is being cared for full-time by a parent might be worded similarly to the one which follows:

To Example Tax Office
Stereotype Street
Bloke
BL2X 1NI

Dear Sirs,

Our Client V Attentive of Care Street London (Tax ref: XYZ1234 NI: NDEALA7A11)

Mr Attentive provides full-time care for his son Minor who was recently compensated for a serious personal injury, which has rendered him incapacitated [insert details of disability]:

We wish to confirm your agreement to the tax and national insurance treatment of the amount of £1,000 per month which is now being paid by way of support from the [receiver/trustees of/for] son of the above. We submit that in this family context the usual contractual situation which creates an income tax and national insurance liability does not apply.
There is no contractual relationship in this particular family situation. This means that there is neither an income tax nor a national insurance liability upon the payments being made. The care was/is secured by the natural love and affection of father for son. The [receiver/trustees is/are] making payments, which recognise the need to support this pre-existing non-contractual situation. A contract has not been the means of securing payment. If payments ceased the care would continue as it did before they were made.
By way of support for our assertions in this case we would ask you to note the following: This family arrangement is informal. The role being supported cannot be put in the usual contractual box as to job description. It requires action at practically anything at any time for anything. [For instance….] Mr Attentive does not have specially agreed hours or breaks or even holidays. [Insert details of last breaks or holidays] There is some help given by Mrs Attentive, who works part time outside the family home. There is little or no demarcation of work-type between them. There is no ‘boss’ responsible for securing contractual terms and service delivery. There is no obligation at law upon Mr Attentive to provide the care given. The law could not enforce the considerable physical and social care involved. [Supply further details of care given] The lack of clear terms in this arrangement also undermines the possibility that there is any contract for services of employment. Contracts need to be reasonably certain or well-defined in their content. This is not the case. It is continually changing. [Give examples of changes over the years, for example, as child has grown older] It is a self-regulating relationship.
In short, there is nothing to indicate a contract of any sort. The care ‘just happens’ and payment is in recognition of it happening but is not its causation. It is a support payment not a contractual payment. Thus income tax and national insurance should not be due.

We submit there are also good public policy and common-sense reasons for taking this approach. We believe that this letter and its contents are in agreement with tax office policy in such situations and you should consider referring this matter to head office if necessary. We look forward to hearing from you.

Yours faithfully...

David Coldrick is a partner at Wrigleys Solicitor’s. He can be contacted at: david.coldrick@wrigleys.co.uk (Special thanks to Mohammed Asif, solicitor and ATII, in the compilation of this article.)