The Operation of Parliamentary Standards Act 2009

Written evidence from Dave Hartnett CB, Permanent Secretary for Tax,

HM Revenue & Customs

The taxation of MPs’ pay and expenses

Taxation of employment income

1. Employees and "office holders" are taxed on income from their employment or office under the rules now set out in the Income Tax (Earnings and Pensions) Act 2003 (ITEPA). ITEPA is one of the products of the Tax Law Rewrite programme to put tax legislation into more accessible language without changing the substance of the rules contained in the legislation it replaced.

2. Prior to the introduction of ITEPA, earnings from an employment or office were taxed under Schedule E of the old Scheduler system for charging income to tax. The Schedule E charge was replaced with a charge to tax on employment income and the terms "employment" and "employee" in the new ITEPA provisions were defined to include "offices" and "office holders". For the purposes of these provisions, the term "office" includes in particular any position which has an existence independent of the person who holds it and may be filled by successive holders. The most common form of office holder is a company director.

3. Without the extension of the employment income rules to cover offices and offices holders, fees received from an office would escape any charge to income tax. This is because they derive from neither a contract of employment, nor a trade profession or vocation which is subject to a separate set of tax rules.

4. MPs are office holders and, as such, they fall within the scope of the ITEPA rules. Individuals are taxable on all payments and benefits they receive by reason of their office, unless there is a specific statutory exemption covering a particular payment or benefit. Expense payments received by an individual from their employer are taxable, but there may be a matching deduction from taxable income under the rules covered below.

5. The general rule on deductions from employment income for tax purposes is set out in section 336 of ITEPA. This says that a deduction is allowed for expenses:

· that the employee has to pay because they hold the employment and

· that are incurred wholly, exclusively and necessarily in the performance of the duties of the employment.

6. These rules have been the subject of extensive case law. This has established that the rules are to be applied very strictly.

7. The requirement that expenditure has to be incurred "wholly and exclusively" for the purposes of performing the duties of the employment rules out expenditure with a personal element – for example, there is always a personal element in the cost of ordinary clothing. The requirement for expenditure to be "necessarily" incurred means that each and every office holder of an employment would need to incur the expense – it is not enough for a particular employee to find it necessary. Finally, a deduction is only allowed for expenditure incurred while actually performing the duties of the employment – expenditure which merely puts an employee in a position to perform those duties is not allowed.

8. The general rule on expenses does not apply to travel expenses. The rules on travel are in sections 337 to 339 of ITEPA. The costs of travel incurred by an employee can be deducted if

· The employee is obliged to incur the expenses and

· The expense was necessarily incurred on travel while performing the duties.

9. A deduction can also be allowed for the costs of travel to a place the employee has to attend in the course of carrying their duties but there is no deduction for the costs of ordinary commuting. Broadly this means that travel from home to a permanent workplace is not allowed but there may be a deduction for travel to a temporary workplace. There are rules on the definition of a "temporary workplace" but this note does not attempt to cover them.

Taxation of MPs’ pay

10. Parliamentary and Ministerial salaries paid to MPs (including any London Area Living Payment or any payment as a Chairperson of a Select Committee) are taxed in the same way as salaries paid to other office holders and employees. Salary payments are taxable at the earlier of the time of entitlement to payment or actual payment. In practice, for MPs, this means their salary payments are subject to tax deduction at source though PAYE at the time they are paid.

MPs’ Expenses

11. Because of the particular requirements of performing the duties of an MP there are some specific provisions in ITEPA on the tax treatment of MPs’ expenses. These provisions were introduced or amended following the introduction of the Parliamentary Standards Act 2009 and the creation of the Independent Parliamentary Standards Authority (IPSA) and their new MPs’ Expenses Scheme. They broadly continued the tax treatment of similar expenses payments under the previous House of Commons Members’ Allowances Scheme.

12. Section 292 of ITEPA provides a complete exemption from tax for Accommodation Expenses paid by IPSA. For the purposes of this exemption "accommodation expenses" are defined in accordance with the IPSA scheme definition of these expenses – expenses necessarily incurred on overnight accommodation which is required for the performance of the MPs’ parliamentary duties in or about Westminster or the constituency. The exemption does not, however, apply expenses relating to hotel costs incurred only because an MP was required to attend a late-night sitting at the House of Commons, unless the House sat beyond 1am. Such expenses are expressly excluded from the terms of the exemption.

13. Section 293A of ITEPA provides an exemption from tax for travel and subsistence expenses paid by IPSA for journeys within the UK which are necessary for the performance of their parliamentary duties including:

· For MPs in receipt of Accommodation Expenses, journeys between any point in the constituency (or a home or office within 20 miles of their constituency) and Westminster or a London Area home.

· For MPs not in receipt of Accommodation Expenses, journeys between their constituency office and Westminster.

· Journeys made by the spouse or partner of the MPs with whom they share caring responsibilities for a dependent (as defined by the IPSA scheme), but not for journeys made by children themselves.

14. The exemption is predicated on the fact that MPs, because of their constitutional role, have two places of work – Westminster and their constituency. It has long been accepted by HMRC and the former Inland Revenue that travel between Westminster and the constituency (including to and from a home within or just outside the constituency boundary or within the London area) is tax-free because the travel is in the performance of the duties of an MP. No tax relief is available to MPs for travel between their constituency home and constituency office, or a London Area home and Westminster, as these journeys are ordinary commuting.

15. Subsistence Expenses for expenses necessarily incurred by an MP on an evening meal eaten on the Parliamentary estate where the House has sat beyond 7.30pm are also covered by the exemption at section 293 of ITEPA.

16. There is also a specific provision in section 294 of ITEPA exempting from income tax the costs of European travel by MPs and other elected representatives. This covers travel to the national Parliaments of Council of Europe member states, or institutions and agencies of the European Union.

17. Apart from these specific provisions, other types of expenses reimbursements to MPs by IPSA (including other travel and subsistence expenses, office costs expenditure and staffing expenditure) are taxable and deductions can be claimed in the normal way under the tax rules that apply to all other employees and office holders.

18. Where particular expenses payments are taxable but HMRC are satisfied that a matching tax deduction from taxable income would be available, an agreement may be reached that the expense can be paid tax-free. Such an agreement (which can be reached with any employer) is know as a "dispensation". The granting of a dispensation also removes the requirement for IPSA to report details of expenses payments to HMRC at the end of the tax year, and for MPs to include details of the payments on their Self Assessment tax Returns.

18 October 2011