June 10th, 2016
Expenses and benefits matched by allowable deductions
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This TolleyGuidance note sets out the detail of the new exemption for expenses and benefits matched by allowable deductions introduced for 2016/17 onwards.
Where an employer pays or reimburses expenses to an employee by reason of his employment a tax charge would normally arise under ITEPA 2003, s 72.
Similarly when an employer provides the employee with some form of non-cash benefit by reason of his employment a tax charge would normally arise on the benefit under the provisions of the benefits code in ITEPA 2003, Part 3.
From 2016/17 there is an exception to this treatment where the expenses payment or benefit in question is matched by an allowable deduction from the employee's earnings from that employment. In such a case no charge to tax or NIC arises and the employer has no reporting requirements.
ITEPA 2003, ss 289A–289E; EIM30200
It follows therefore that the employee can only claim a deduction from earnings in respect of that expense payment or benefit if his own qualifying expenditure exceeds the amount met or reimbursed by the employer.
This exemption for amounts that would otherwise be matched by allowable deductions is only available for 2016/17 onwards and replaces the previous system of dispensations (for more on the position for 2015/16 and earlier tax years, see the Dispensations overview guidance note).
Details of the exemption
In the case of expenses paid or reimbursed by the employer to the employee, the exemption removes any charge to tax or NIC in cases where the employee would be entitled to a deduction from earnings in respect of the whole expense in question. There is no need for the employer to include exempt items on Forms P11D.
Benefits provided to employees are exempt if the employee would be entitled to a deduction from earnings if he had paid for that particular benefit himself (ITEPA 2003, s 289D).
The exemption is not available where the expenses in question are paid or reimbursed as part of a salary sacrifice arrangement.
The exemption has a degree of inbuilt flexibility as it can apply to flat rate expenses payments made by reference to benchmark scale rates or to bespoke scale rates that the employer may agree with HMRC, provided that two conditions are met:
- there must be a checking system in place to ensure that the employees receiving the scale rate payments are in fact incurring and paying amounts for the specified purpose that would qualify for a deduction from earnings
- neither the payer nor anyone operating the checking system knows or suspects (or could reasonably be expected to know / suspect) that the employee had not incurred the expense in question or the expense would not qualify for a deduction
If an employer pays flat rate expenses that have not been agreed with or published by HMRC, these are outside the scope of the exemption and the amounts should go through payroll and be included on forms P11D in the normal way (see the Expenses guidance note), with the employee claiming an allowable deduction if possible.
There is no requirement for employers to use scale rates across the board. They may pay or reimburse employees on the basis of actual expenditure by employees where they consider the flat rate would not be appropriate. The availability of the exemption is not affected. See Example 3.
The checking system should form part of the employer's expenses policy, which should be in writing, be approved at an appropriate level of Board authority and be circulated to employees, explaining what procedures employees should follow in order to claim expenses and what records they need to keep. In any employer compliance check, HMRC is likely to ask the employer to provide evidence that the exemption is only being applied in cases where the employee is incurring deductible amounts. A requirement for employees claiming expenses to submit or retain receipts in respect of all expenditure incurred should be enough to satisfy this requirement for the majority of expense claims, but there should ideally be a process for identifying exceptional cases, setting out what further evidential proof should be provided.
The requirement for employers to have a system in place for checking payments to employees was also a feature of the dispensation regime that applied for 2015/16 and earlier tax years. Employers who made use of the dispensations regime should review their existing systems to check that they are suitable for policing the exemption for amounts that would otherwise be deductible and record that they have done so.
HMRC published rates
One of the most common categories of flat rate expense payments is in respect of the subsistence element of travel and subsistence for business purposes. HMRC has published regulations giving rates for meal allowances which the employer may wish to use and which would be within the exemption if paid in connection with a qualifying journey:
|Length of qualifying journey (hours)||Maximum meal allowance|
|five or more (but less than 10)||£5|
|10 or more (but less than 15)||£10|
|15 or more||£25|
An additional £10 can be paid for meals on longer journeys (not those lasting less than 10 hours) if the journey in question continues after 8pm.
See SI 2015/1948.
The above rates are only for use in applying the exemption – if the employer pays less than those amounts, the employee is not entitled to a deduction in respect of the shortfall. However if the employee has incurred qualifying expenditure which is higher than the amount reimbursed by the employer, he can claim a deduction from earnings for the unreimbursed part in his self assessment return or by submitting form P87. It is worth advising employees doing so that HMRC may question claims for unreasonable levels of expenditure and the fact that the employer has not reimbursed the whole amount increases the risk of such an enquiry from HMRC (see the Excessive levels of expenses guidance note).
HMRC has not yet published rates for overnight subsistence for travel within the UK. Employers wishing to pay flat rates for overnight subsistence should agree bespoke rates with HMRC (see below).
However, HMRC has indicated (at EIM30295) that employers can still reimburse employees for subsistence on overseas trips by reference to the worldwide scale rates without any tax or NIC implications (see the Overseas business expenses guidance note).
Bespoke scale rates
Employers can agree with HMRC bespoke scale rates for categories of expenditure in respect of which they commonly pay expenses to employees. The most common such type of expenses would be subsistence payments to employees travelling for business purposes. This includes cases where the employer wishes to use higher flat rate meal allowances than those listed above.
When asking HMRC to agree bespoke scale rates, the employer needs to justify the proposed rate. A common way of approaching this would be for the employer to carry out a sampling exercise based on a random sample of expense claims from 10% or more (dependent on workforce size – the sample needs to be representative) of employees for the category of expenditure in question. That sampling exercise should gather in contemporaneous records of the business reason for and the nature and cost of each item of expenditure, supported by receipts in each case.
Employers may negotiate different scale rates for different categories of workers covering different items of expenditure or different scale rates for each. If so, the application to HMRC should be supported by a separate sampling exercise in respect of each group.
It is also possible for representatives of particular industry groups to agree bespoke rates with HMRC for use by employers in that group (see also the Working rule agreements guidance note).
HMRC approval for bespoke rates lasts for a maximum of five years from the date of the agreement (ITEPA 2003, s 289B(4)(c)).
HMRC can revoke approval to any particular set of bespoke rates during that five-year period if, in the opinion of an Officer, there is reason to do so. The HMRC Officer revoking the approval must do so in writing, stating when the revocation has effect which can either from the original date of approval or from a specified later date. The most likely reason for such a revocation would be evidence coming to light as part of an employer compliance check that the scale rates are in fact disproportionate to the amount of deductible expenses actually being incurred by employees or that there are flaws in the employer's application of those scale rates. Since there is no appeal against the revocation itself, any objection would have to be by way of judicial review, so employers should be careful to ensure that their bespoke rates are sensible and sustainable.
ITEPA 2003, s 289C
Use of rates previously agreed under a dispensation
It is possible to roll forward use of scales rates previously agreed under a dispensation, but only if the rates in question were agreed in the previous five years and then only with HMRC agreement.
Employers wishing to do this, should write to HMRC setting out:
- the rate(s) agreed
- the date of the original agreement
- the conditions under which the employer would make the payments
- details of the checking systems that the employer has in place
- confirmation that the employees in question would be entitled to a deduction in respect of the expenses in question
If HMRC so agrees, the employer may then use the previous scale rates up to the fifth anniversary of when they were first agreed with HMRC.
From 6 April 2016, if an employer continues to use rates agreed in a dispensation without HMRC approval, he should treat any amounts not covered by HMRC's published rates as round sum allowances putting these through payroll, subject to tax and NIC under PAYE, and advise employees to submit any claim for a deduction that they feel is appropriate either in their tax return or on Form P87. Any meal allowances paid in excess of HMRC's published rates (see above) are only within the exemption up to the level of those published rates, with the excess being treated as round sum allowances. See the Round sum allowances guidance note.
Cases where the exemption does not apply
Employers who pay any non-allowable expenses still need to put those through the payroll, deducting tax and NICs under PAYE.
Expenses that are only partially deductible are outside the scope of the exemption. The employer should put these through payroll in full, leaving the employee to claim a deduction from HMRC on the deductible part. See Example 4.
It is not yet clear what the end-of-year reporting requirements are for non-exempt expenses which are paid through payroll and thus included in Full Payment Submissions made under RTI. Employers should therefore keep a separate record of any such payments until HMRC confirm the position in the 2016/17 P11D guidance (not expected until spring 2017).
Any benefits provided which are not fully matched by a deduction either have to be put through payroll or reported on the employee's P11D (see the Voluntary payrolling of benefits in kind and Year end benefit reporting guidance notes).