Being involved in the
management of a brothel is illegal in England & Wales - viewers
in Scotland and Northern Ireland have their own laws which are
broadly similar. This causes interesting practical problems for
anyone dealing with the tax affairs of brothels. For starters
declaring brothel-managing income on your tax return is tantamount
to handing in a signed confession to a criminal offence. And any
accountant agreeing to act for a brothel manager should be filing a
Suspicious Activity Report with the Serious Organised Crime Agency.
You could try arguing that most brothels are seriously disorganised
but it's not a great defence in the face of a 7 year prison
sentence.So why discuss
brothels at all? Two reasons.
First of all brothels
are being targeted by JOSETS (Joint Shadow Economy Teams), the
joint black economy units run by HM Revenue & Customs and the
Department of Work & Pensions. Their aim seems to be to bring
both the establishment owners and the individual working girls into
the tax system, and at the same time crack down on benefit fraud.
More about what they're doing and how to respond later
on.
The second factor is
that three years ago the government stated its intention of
improving the safety of girls working alone, and encouraging girls
away from street work, by legalising the practice of 2 girls
working together in a flat with a maid - in a brothelette. That
idea seems to have been overshadowed by Harriet Harman's recent
talk of outlawing paying for sex, but nevertheless the original
idea is still in the Home Office document "Paying the
Price."
The Brothelette
Business Model - Income Tax
The Home Office
probably envisaged an ideal world where brothelettes are all run as
co- operatives: a group of working girls sharing premises, taking
it in turns to work, maiding for each other, and sharing all the
house running expenses. If only one girl works from the premises it
is legal already, and if the government proposals get turned into
law it looks as though it will be legal for two girls to work at
the same time. Nobody is managing it because the girls sort out
everything between themselves. And the tax position is
straightforward: each girl has her own income and then claims tax
relief on her personal expenses and her share of the joint house
expenses.
Some flats work
successfully as co-operatives, but in the long term it's not a
great way to run a business. Somebody needs to be responsible for
the rent and the other property expenses, somebody needs to co-
ordinate the rota and organize advertising, somebody needs to water
the hanging baskets, and if the punters aren't going to be confused
someone needs to ensure there are house standards about the way
they go about their work.
Most successful small
brothels are therefore actively managed, sometimes by one of the
working girls herself, sometimes by a retired wg, and sometimes by
a man. The typical business model works much like some small
hairdressing salons. The salon is owned by one of the stylists. She
also rents out chairs to other stylists who are self- employed and
build up their own client base. They pay a rent, which may be a
fixed sum per hour or a percentage of their takings, and in return
they get the use of the salon facilities including shared booking
arrangements, use of equipment, towels, condoms etc. Usually, for
convenience of accounting, all the takings go through the same till
and the salon owner will deal with banking and reckon up with the
individual stylists once a week. Although self- employed, the
stylists are required to keep to the salon rules - for instance
sticking to the salon price list, using salon hair products, asking
clients about their holidays, and wearing stockings and
suspenders.
The income tax
position of the individual stylists is again fairly
straightforward. They are self- employed (provided the contract has
been drawn up properly) so they pay weekly Class 2 NI, and they are
self- assessed on their profits which are calculated from their
total takings less the payment they make to the salon, and less any
other personal expenses which are allowable for
tax.
The salon owner is
again self-employed (ignoring the potential complication that the
salon might be a limited company - yes it might be, but nobody in
their right mind would run a brothel as a limited company, surely.
Although, thinking about it, in 2002 the owner of Bonnies Mansion
did try, unsuccessfully, to convince Scotland Yard it was owned by
a charity.) Anyway, the profits of a sane salon owner comprise her
own income as a stylist plus her 'rent' from the self- employed
stylists, less all the expenses of running the
salon.
VAT &
Brothelettes
VAT is where it starts
getting really interesting
exciting!
Hairdressers don't
want to be VAT registered if they can avoid it, because the top
slice of their takings will be VAT which they'll have to pay to the
treasury. OK they will be able to reclaim the VAT on their
expenses, but unless their expenses are higher than their income -
i.e. unless their business is losing money, in which case they
ought to pack up and go home - they will be considerably out
of pocket. Fortunately a business does not have to register if its
annual takings are below the VAT threshold of
£67,000.
The individual stylist
renting a chair in a salon is almost certainly below the VAT
threshold. But what of the salon owner? Her annual takings for VAT
purposes comprise her own takings as a stylist plus the rents she
charges to the self- employed stylists. Depending on the size of
the salon and how much work she does herself, she may or may not be
below the threshold for VAT.
There have been a
number of VAT Tribunal and Court cases where HMRC have attempted to
prove that the chair- renters were styling hair as agents of the
salon owner and that the customers were all doing business with the
salon rather than with an individual stylist. If that were true
then the salon owners takings for VAT purposes would be the total
takings of all the stylists added together, which in all but the
quietest salons would be over the VAT threshold and the VATman
would get a guaranteed slice of the whole cake.
You'll be delighted to
know that provided a salon chair-renting scheme is set up properly
it does work as a way of avoiding VAT. In Kieran Mullin Ltd v
Customs & Excise Commissioners (2003) the judge ruled that the
critical issue was that the stylists paid the company to rent a
chair, and they did not receive any payment from the company. So
they could not be receiving money from the customers as agents of
the company. The effect of that decision is to divide the total
takings of the salon into a number of smaller cakes. Instead of
getting a slice of one big cake the VATman is left getting a slice
of only the cakes that are bigger than the VAT threshold. [Don't
you just love a good mixed metaphor?]
But recently there has
been an even more entertaining High Court decision which is (in
legal parlance) 'on all fours' with what goes on in a brothelette
that uses the hair salon business model. You'll find details
of The Spearmint Rhino
case here. So
how does it relate to brothelettes?
From a VAT point of
view the key part of the transaction is when punter and
working girl eye each other up, sniff around each other, or
whatever else they do, and reach an agreement about what services
he wants and what she is prepared to supply. They make an
arrangement together, she is not agreeing to provide sex as an
agent of the brothel. She is agreeing as a free agent to supply
sex, and in a separate arrangement she is renting a room and all
that goes with it from the brothel owner. Typically the deal is
struck, the money changes hands, and she then disappears for a few
minutes to put the cash in the till while he takes off his shoes
and socks.
That means that the
individual girls only have to worry about VAT if the total amount
that punters place into their hot little hands goes over the VAT
threshold.
The brothel-keeper is
similarly only liable to VAT on the part of the takings which the
girls pay to her. It doesn't matter if for administrative
convenience all the takings are initially pooled in the same till.
The part which the girls keep is their money and following the
Spearmint Rhino decision nothing to do with the brothelette
manager. And if the manager's share of the girls' takings, together
with anything she earns from working herself, fall below the VAT
threshold then she has no need to register for VAT at all. But even
if she does have to register she only has to account for VAT on her
share of the money coming into the business.
That's all a bit
confusing so here's a couple of examples.
Example
1
To keep the
arithmetic simple suppose there are 10 girls working in a
brothelette and in a year they are paid £15,000 each by
punters. Out of that they each pay £5,000 to the
brothel-keeper to pay for the flat, the maid, hot and cold running
water, use of lifeboat man uniforms, Performing Rights Music
Licence (yeah right!) etc. The brothel-keeper also works and
receives £20,000 from punters, but obviously doesn't pay
herself for use of facilities.
The friendly VATman
knocks on the door and says it's all one business, the total
takings are £170,000 (£15,000 x 10 + £20,000) which
is way over the VAT registration limit, you owe us VAT on
£170k which is £25,319 (i.e. 170,000 x
17.5/117.5)
But following the
Spearmint Rhino case the position is much less favourable to the
VATman. Each of the girls receives £15,000 which is way below
the VAT threshold so none of them need to register. The
brothel-keeper receives £5,000 from each girl plus
£20,000 she gets from her own punters, which is a total of
£70,000. That's just over the VAT threshold so she owes the
VATman £10,425 (i.e. 70,000 x 17.5/117.5)
Example
2
Let's suppose
everything is the same as in example 1 except the brothel-keeper
decides to do less work herself and only receives £10,000 from
her own punters.
Following the
Spearmint Rhino principles the girls are still below the threshold
and don't have to register. But now the brothel- keeper's takings
are £50,000 from the girls plus £10,000 from punters, a
total of £60,000. That's below the VAT threshold which means
she doesn't have to register either, and the VATman goes away with
zilch.
For the sake of
clarity I've ignored the VAT which could be reclaimed on expenses
if the business is forced to register. It will reduce the VAT
payable a bit, but not by much.
JOSETs
So, as promised, back
to what HM Revenue & Customs are up to through JOSETs. Over the
last year or more the shadow economy teams have been taking an
interest in the sex trade generally and brothels in particular.
Generally they will arrive as a 3 person team: a benefits person
from the Department of Work & Pensions, a VATman and an Income
tax and National Insurance bod. They usually seek to register all
the girls for tax, and suggest to any who are claiming benefits
while working that they might like to pack up and go home
permanently. At this point the benefits specialist usually
withdraws too. They will accept that the girls are self-employed
and will make sure they get all the girls still working to register
for tax and NI. I have known them try to get the person running a
brothelette to get any new girls to sign up, but I can't see any
legal basis that enables them to insist on that, and in practical
terms the owner may not even know the real name or address of some
of the girls. I would strongly suggest she urges them, in their own
best interests, to register, but I can't see how she can insist on
it.
Turning to the brothel
owner they will want her to register for tax and NI, if she is not
already registered. This does cause a problem because, as explained
at the outset, registering as a brothel- keeper amounts to
confessing to a crime. HMRC are unlikely to object if some other
description is used (fitness salon operator, health club....)
provided the income is properly declared.
In most of the cases I
have come across JOSETs have not taken on board the effect of the
Spearmint Rhino case or the earlier hairdressing salon cases. They
tend to assume they can treat the whole of the takings as VATable
and insisted that a VAT registration form is completed. In some
cases after accountancy advice has been taken the owner has
subsequently de-registered. You are perfectly entitled to refuse to
sign a registration form until you have taken professional advice.
Equally you are entitled to de-register if your takings are below
the de-registration limit (£65,000). If HMRC disagree with
your decision they can raise assessments or refuse your request,
but those actions can be appealed. There is a danger that refusing
to co- operate will lead to them deciding to look back at earlier
years, but taking a short period of time to get proper professional
advice should not cause problems. The bottom line is that the
nature of your business should not affect your right to be treated
with respect.
The
Maid
There is one final
knotty tax problem connected with brothelettes: the position of the
maid.
In the idealised
situation where a group of girls are operating as a co-operative
and everyone shares out the maiding then there is no real problem.
The girls are self- employed. Most of their income is from working
but a small amount comes from acting as maid. It can all be treated
as part of their self-employed income.
The problem comes when
one person is doing most of the maiding because it there is a
danger she'll be regarded as an employee of owner. That means
deducting PAYE and NI with all the accompanying paperwork. In
practice most maids are regarded as self- employed, and provided
they register and pay their tax HMR&C may be happy to allow
that to continue. The risk is that if the maid doesn't pay her tax
then the taxman can, with some justification, come back to the
owner and demand the tax and NI from her. That could get very
expensive. most parlours would argue that the maid is wholly paid
by customary tips from the girls and therefore can't be an employee
of the owner.
1. Do-it-Yourself
