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One-person company compliance challenges: The year ahead

Lucy Webb analyses some of the key issues facing one-person companies in 2020/21.

30th Jun 2020
Tax Writer
In association with
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One-person company
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It’s fair to say that 2020 is not a golden age for one-person companies.

Long gone are the days of a starting rate of corporation tax of 10% or 0%. More recently, reductions in the dividend allowance from £5,000 to £2,000 have further impacted the tax efficiency of operating via a limited company.

In fact, some might wonder whether the balance of sole trader versus limited company structures has changed so much that it’s no longer worth incorporating. Unfortunately, the answer isn’t clear cut.

Below are some of the key issues facing one-person companies in the year ahead.

IR35

At this point, the issues around IR35 hardly need an introduction. Scheduled to roll out in April 2020, the IR35 reforms to the private sector have now been delayed until April 2021 as part of the government’s response to COVID-19. Under the reforms, medium and large organisations will become responsible for determining IR35 status.

Despite the delay, criticism of the reforms is still rife. A recent House of Lords report concluded that IR35 “has not worked properly throughout its 20-year history” and also suggested the government should take the extra time afforded by the delay to “completely rethink this legislation.”

Unfortunately, the damage may already be done. The government seems intent to continue with the reforms, and a small number of companies are reportedly sticking to their blanket ban approach, meaning they will no longer engage with contractors that operate through their own limited company.

National Insurance contributions

One person companies affected by the changes to IR35 may well be considering whether it’s worth remaining incorporated, but is being a sole trader much better?

Changes could also be on the way for unincorporated sole traders if Chancellor Rishi Sunak’s recent comments come to pass.

Following his comment in March that “If we all want to benefit equally from state support, we must all pay in equally in future”, the suggestion is that there may be a future equalisation in tax paid by the self-employed and the employed, which may, for instance, mean a jump in National Insurance contributions for sole traders.

Making Tax Digital

Making Tax Digital for VAT came into effect for the majority of businesses with taxable turnover above the VAT registration threshold (£85,000) in April 2019.

While HMRC has noted in its report Making Tax Digital: An evaluation of the VAT service and update on the Income Tax Service that “a large proportion of businesses and agents have successfully transitioned to MTD without any issues,” it did admit that “there were others who reported difficulties in the early stages, particularly in signing up to the service and choosing a software provider.”

Although the transition to Making Tax Digital for VAT has been challenging for certain businesses – particularly those who have not previously kept digital records, the Making Tax Digital regime in and of itself should not be the overriding factor when considering the benefits of incorporation.

There are plans for MTD to extend to income tax and corporation tax, with a pilot for MTD for Income Tax currently underway. Although the timeline for MTD for Corporation Tax isn’t yet clear, the government has confirmed it will not be mandating MTD for new taxes or businesses in 2020.

Covid-19

Although Covid-19 measures are short term in nature, they unquestionably have an impact on one-person companies.

The government has announced several measures as part of its response to Covid-19, including the Self-Employment Income Support Scheme (SEISS) and the Coronavirus Job Retention Scheme (CJRS).

While the SEISS does not cover individuals operating via their own limited company, the CJRS is available to the extent that the company pays the individual a salary.

However, as profit extraction from a one-person company is generally based on taking a low level of salary, which is supplemented by dividends, this may mean in practice that the amount of CJRS grant available to such individuals is very low.

Is it worth incorporating?

Ultimately, tax is just one factor that should be considered when deciding whether to incorporate (or remain incorporated).

While there are some modest tax benefits to be had from operating via a limited company, the tax landscape frequently changes. As the introduction and subsequent reduction in the dividend allowance aptly demonstrates, what brings tax efficiency one day may be gone tomorrow.

As a result, it’s always worth weighing up the other benefits (and drawbacks) that incorporation brings when deciding if it’s worth it. The deciding factor will be different for every individual; while the higher administration and compliance costs of limited companies will be a deal-breaker for some, others will prefer to have the limited liability that incorporation offers.

The exception to this is perhaps contractors who will be adversely affected by the 2021 IR35 private sector reforms. In such instances, it may be worthwhile considering other options – including moving directly onto a client’s payroll or switching to an umbrella company.

Such decisions are not to be taken lightly, and advice should be sought in such instances to confirm the approach that best suits your circumstances.