HMRC recently updated its guidance on commercially marketed workplace nursery schemes and the exemption in section 318 of the Income Tax (Earnings and Pensions) Act 2003 (ITEPA 2003). Employers using such schemes should ensure that their arrangements satisfy the conditions for exemption.
What are the key rules?
Section 318 ITEPA 2003 provides an exemption from tax for certain employer-provided childcare, where all the qualifying conditions from A to D are met. Section 318 sets out these four conditions:
- Condition A: The care must be for a qualifying child under the age of 16. This a child or stepchild that the employee either lives with or for whom the employee has parental responsibility.
- Condition B: The premises on which the care is provided must qualify. Broadly, this requires the premises to meet registration requirements (defined in the legislation), and for the premises not to be wholly or mainly a private dwelling.
- Condition C: The premises on which the care is provided must either be made available by the scheme employer, or the partnership requirements must be met. This means the facility can either be made available by the scheme employer alone, or it makes joint provision with other employers and the partnership requirements are met. See further on this below - it is the joint provision and the partnership requirements that are the focus of HMRC’s updated guidance.
- Condition D: The arrangement under which care is provided must generally be open to all employees or, if the scheme employer has premises at more than one location, the scheme must be open generally to employees at the particular location at which the scheme operates. Nurseries may also be available to other workers on the site, such as contractors or employees of other employers based at the premises.
Where a workplace nursery scheme is provided under a salary sacrifice arrangement and qualifies for the exemption at section 318 ITEPA 2003, it is specifically excluded from the Optional Remuneration Arrangement rules (known as the ‘OpRA’ rules – see more on the OpRA rules in our newsletter article from November 2017).
What are the partnership requirements of Condition C?
Condition C allows employers who do not make a workplace nursery available on their own premises to jointly run a childcare facility with other employers. The partnership requirements must then be met for the exemption to apply, the conditions being that:
- the employer must be included in the arrangements for providing the care; and
- the premises where the care is provided must be on one of the employer’s sites or on the premises of a commercial childcare provider involved in the partnership; and
- the employer must, at least in part, contribute to both the financial and management elements of the care provision.
For the financing condition to be met, HMRC’s view is that the financing should be a commitment to the nursery or to the childcare. HMRC expects a capital contribution to the upkeep of the nursery or towards the salaries of the carers.
While the employer does not need to be involved in the day-to-day management or have direct responsibility for the care of the children, for the management condition to be met the employer should have meaningful input and close involvement in such matters as hiring carers, the extent of the care, the conditions under which the care is provided, and the allocation of places.
HMRC’s view is that management means much more than being occasionally consulted about broad policies related to the provision of the care, and/or having a right to a place on a committee that has no particular brief and little or no influence over the way in which the care is provided. Employers must, in a real sense, play a part in the management of the facility.
Furthermore, the HMRC guidance says that where an employee with a child at a nursery is appointed to the management board of that nursery as an agent of the employer, HMRC will expect to see evidence that the employee is fully empowered to act for the employer and actually does so.
Why has HMRC changed its guidance?
In the updated guidance, HMRC says it is concerned that there are commercially marketed schemes that set out to exploit the exemption. HMRC’s concern is primarily around employers entering into partnership arrangements with commercial nursery providers, where the employer does not engage with the commercial provider in such a way that it is wholly or partly responsible for financing and managing the provision of the care.
‘Many of the schemes that fail to comply with the statutory provisions follow a similar pattern. They may have some or all of the following features or variants on them:
- the employee enters into a salary sacrifice, giving up an amount of pay equal to the cost of the nursery place which is to be provided;
- the employer pays for a nursery place for the employee’s child. This may be at a nursery run by the scheme promoter or at an independent nursery, depending on the scheme;
- in addition to paying the nursery fee the employer pays the nursery an additional sum, typically £400 per annum per place; and
- the employer appoints the scheme promoter to act as their ‘agent’ at meetings of the nursery management committee (though in practice the employer has no real say at all in the way the nursery is run).’
What if the section 318 exemption does not apply to workplace childcare?
The benefit will be regarded as liable to tax and Class 1A NIC.
The benefit in kind value (liable to tax and Class 1A NIC) for each employee will be based on the higher of the cost to the employer (for each employee) and (if it is provided under an OpRA, such as a salary sacrifice arrangement) the amount of earnings forgone by the employee for the benefit.
If HMRC successfully challenges an arrangement that has been treated as exempt in the past, and concludes that the exemption does not apply, it could go back six tax years to collect the underpaid Class 1A NIC and charge late payment interest and penalties. HMRC may also invite the employer to settle any underpaid tax due on a grossed-up basis, normally for the previous four tax years.
What should employers with such arrangements consider?
Employers making such arrangements available should carefully consider:
- Whether all the conditions for exemption apply, including whether the partnership requirements are met in relation to jointly run facilities; and
- If offered via salary sacrifice, whether the salary sacrifice is effective. If the salary sacrifice is not effective the amount of pay previously ‘sacrificed’ could be considered as normal pay liable to tax under PAYE (despite it not being paid).