Court of Appeal — HMRC misinterpreted and misapplied Construction Industry Scheme regulations

The Court of Appeal has clarified the correct interpretation and application of regulation 13 of the Income Tax (Construction Industry Scheme) Regulations 2005 (the Regulations) in a decision that carries significant ramifications for the construction sector.

Here, Natalia Aguilar explores the implications of the decision in Beech Developments (Manchester) Limited and others v The Commissioners for His Majesty’s Revenue and Customs, handed down on 9 May 2024.

Impact of the Regulations

The Construction Industry Scheme (the Scheme) was designed to minimise opportunities for workers in the construction sector to evade tax by compelling ‘contractors’ to deduct amounts from payments made to ‘subcontractors’ on account of tax and pay this directly to HMRC.

The Appellants — all Special Purpose Vehicles within the same corporate group and established in respect of separate construction projects — made payments to another entity within the corporate group Beech Construction Partnership Limited (BCPL). BCPL held the role of ‘contractor’ in relation to each of the SPVs’ construction projects and applied the Scheme to the sub-contracts that it entered into. 

However, the Appellants did not appreciate that — under the Regulations — they would similarly be considered ‘contractors’, with BCPL being considered ‘subcontractor’. This required deductions to be made from its payments to BCPL. 

As such, they were issued with determinations by HMRC pursuant to regulation 13(2) for circa £5.4m, which represented the cumulative value of deductions that HMRC asserted should have been made from the payments to BCPL (this was later revised down to circa £2.4m).

HMRC refuses to issue direction

Having appealed the determinations to the First-Tier Tribunal (Tax Chamber) on the basis of regulation 9(3), the Appellants requested HMRC to issue a direction under regulation 9(5). Such a direction removes the requirement for a contractor to pay HMRC sums equivalent to the non-deductions. 

The Appellants sought this direction on the basis that BCPL had accounted for its tax liabilities arising from the payments received. This meant that there had been no tax loss to HMRC occasioned by the non-deductions — a circumstance provided for by regulation 9(4). 

HMRC refused to issue such a direction on the basis that regulation 13(3) prevented it from doing so once a determination had been made. As such, the Appellants were out of time to make such a request.

The Appellants judicially reviewed HMRC’s decision to refuse a direction on the basis that regulation 13(3) didn’t operate to prevent a regulation 9(5) direction being issued after a regulation 13(2) determination had been made. 

The High Court initially found in HMRC’s favour and the Appellants subsequently appealed to the Court of Appeal.

Court of Appeal decision

The Court of Appeal held that the Appellants’ interpretation of regulation 13(3) was to be preferred, finding that: 

“HMRC do have power to issue a direction under reg.9 in respect of an amount that has been the subject of a determination under reg. 13. Provided that the determination remains capable of adjustment, reg. 13(3) provides a means for such a direction to be reflected in the determination”. 

The Court of Appeal reiterated:

“There is no dispute that the first limb [of regulation 13(3)] has the effect that, if a direction under reg. 9 has already been made in respect of an amount, a later determination cannot include that amount… However, it is also the case that Beech’s interpretation is not precluded by the words used. In particular, the second limb of reg. 13(3) does not say that directions “may not be made” in respect of amounts determined under reg. 13. It could easily have done so, and that would have been clear. As discussed below, the consequences of HMRC’s approach are far-reaching, such that clear words might be expected if it was intended”.

It also held that the wording of regulation 13(3) didn’t justify:

“Circumstances where the overall result may well be a windfall [to HMRC] because the sub-contractor’s liabilities have, in fact, been discharged, such that the mischief at which the CIS is directed does not exist”. 

Implications for construction sector

This decision confirms that HMRC isn’t prevented from considering a request by a contractor for a direction under regulation 9(5) where it has already made a determination — provided that the determination hasn’t been finalised (which would occur where the determination hasn’t been appealed or an appeal of the determination has been resolved). 

Accordingly, a party that is currently challenging a determination raised by HMRC may be able to rely on this decision to resolve the matter in its favour where circumstances pursuant to regulation 9(3) and/or (4) have been raised. It may also be possible for concluded matters to be revisited as a result of this decision. 

In any event, if there is a belief that regulation 9(3) and/or (4) could apply (or would have applied) to your circumstances — and therefore a direction under regulation 9(5) could or should have been made — you should immediately seek independent legal advice to explore your options.

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