Following the Summer Budget, HMRC has released a discussion document on ‘how to make IR35 more effective in protecting the Exchequer’. Will end-clients now be compelled to determine the IR35 status of contractors they engage?
At the Budget on 8th July, the Government announced its plans to tighten up the current IR35 rules by clamping down on non-compliance.
The HMRC discussion document, released last week, will form the basis for future discussions between HMRC and ‘stakeholders’ on how to make IR35 more effective. But what does this actually mean?
The main purpose of IR35 was to tax those working through their own limited companies, but working in a similar way as traditional employees, at the same rate as traditional employees, i.e. by removing the tax benefits associated with incorporating.
However, despite a number of ‘reviews’ since the rules were implemented 15 years ago, HMRC says that IR35 simply is not effective enough, and that “non-compliance with the legislation is widespread.”
Despite the introduction of more punitive tax rates on dividends from April 2016, HMRC believes that the incentive to ‘disguise’ employment is still very high.
Of course, what enrages many contractors, is that by simply comparing the take-home pay between employees and limited company professionals, lawmakers fail to take into account the financial risk contractors take throughout their careers, the unpaid time between contracts and when taking holidays, the lack of any employee ‘perks’ they receive, and so on.
What is wrong with IR35 as it is?
According to the discussion document, so-called non-compliance with IR35 is rife and is set to become more so, as the number of ‘personal service companies’ rises.
HMRC’s ‘IR35 interventions’ are currently targeted at ‘high risk’ cases, and previous efforts to overhaul the IR35 regime have included strengthening the existing IR35 compliance teams, the creation of an ‘IR35 forum’, and increasing and the number of enquiries. Despite this, significant difficulties remain, and the enquiries themselves remain “complex and time-consuming”.
The document highlights the fact that it is limited companies themselves who are responsible for operating IR35, and as the legislation applies on a contract by contract basis, HMRC enquiries can only be targeted at the individual engagement level. And, several contractors, working on the same project, may have different working practices, and one contractor on the project may be caught by IR35, and another may not.
Interestingly, the House of Lords Select Committee on PSCs found that an entire ‘IR35 industry’ had grown since the legislation’s creation in 2000, advising contractors on how best to remain outside of IR35’s grasp. As a result, HMRC believes that “many individuals simply take a risk that Her Majesty’s Revenue and Customs will not look into their employment status.”
HMRC states that the estimated cost to the Exchequer this year of IR35 ‘non-compliance’ is expected to be around the £430m mark. It should be noted similar estimates have been widely ridiculed by business groups, as the evidence behind the sums simply doesn’t appear to add up.
What happens now?
Unsurprisingly, HMRC rejects all calls to abolish IR35 and wants to ‘level the playing field’ between users of intermediaries (who would otherwise be deemed to be ’employees’), and those in employment.
Any legislation to realise this goal should be simple, and not burdensome to those required to operate it. In other words, everything that IR35 is not!
HMRC acknowledges that it is hard to create rules to tackle ‘disguised employment’, which don’t “also have some impact on those who are genuinely self-employed and operating through a company for legitimate, commercial reasons.”
One option under consideration is to take the burden of proof of IR35 compliance away from the ‘worker’, and given to engagers of contractors – something that the Government is already considering in its review of subsistence and travel expenses.
This suggestion would mark a fundamental change in the way IR35 is currently operated and is bound to invite some vigorous responses from across the contracting world.
Interested parties have until September 30th to respond to the suggestions made in the document.
You can download the document here
Is ‘control’ at the core of IR35’s future?
Following the July 8th Budget Announcement on IR35, Martyn Valentine, director at The Law Place, responded to the possible involvement of end-clients in IR35 compliance:
“Regarding the consultation on yet more measures to improve the effectiveness of IR35, the main problem HMRC faces is obtaining reliable evidence from the end-client at an early stage of an inquiry.
“A remedy would be to amend the IR35 legislation (and Schedule 36 FA 2008) to compel end-clients to disclose by way of a statutory declaration information concerning the project basis of the engagement, whether a right of control over the contractor exists and whether or not there is a right to substitute in practice.
“HMRC may consider amendments to include within the scope of IR35 non-project based fixed term engagements where the contractor holds a job title irrespective of any right of substitution. Any such engagement would be automatically be caught by IR35.”
Seb Maley from Qdos also highlighted the potential focus on ‘control’ in any forthcoming amendments to the existing IR35 rules:
“I wouldn’t be surprised if we started shifting towards a single status test – control. This is what HMRC have focused on in both the travel & subsistence and false self-employment legislations recently and it would make sense if they looked to follow suit with IR35. If this happens we definitely need far more clarity on how control will be tested, but hopefully, this would come out during the consultation.”
When asked how the increased dividend tax burden from April 2016 would impact IR35, Maley told us:
“The proposed changes to dividend tax will have an impact on the financial consequences of IR35. Given contractors will be paying more tax, their potential IR35 liability will be less, but the bulk of IR35 liability is made up of employees and employers NI which will still apply.”