How to strengthen IR35: Make contractors pay
This is the underlying aim set out in the latest discussion document on the Intermediaries Legislation (IR35). It is clear the government has no intention of scrapping IR35 - they want to strengthen it, says Rebecca Cave.
The intermediaries legislation (now in ITEPA 2003, ss 48-61) was introduced 15 years ago, heralded in the 1999 Budget by press release IR35 – hence the name. The target of the original legislation were employees who left their job on Friday, then returned to the same desk on Monday to perform the same tasks but working through a personal service company (PSC).
This now familiar pattern allows the employer to avoid large amounts of employer’s NIC, and duck other employment-related obligations such as sick pay, holiday pay, parental leave and termination payments. In most cases the worker also has more cash in their pocket after paying the administration costs of running a company, so everyone is happy except for the government, which misses out on about £430m in tax and NIC per year (HMRC estimates).
If the IR35 tests are met for a particular contract, the PSC must apply PAYE to the income from that contract, after deducting allowable costs, including travel and subsistence for the worker.
The deduction for travel costs makes working though a PSC economic for many contractors. The PSC will be based at the contractor’s home address, and hence the cost of travel to the “temporary workplace” in order to perform the contract, is tax deductible within the PSC, if the contract meets the temporary workplace rules (see chapter 3 of HMRC leaflet 490). There is a separate consultation on tax relief for travel and subsistence for workers employed through employment intermediaries which I will discuss in another article.
The problem for the government is that the IR35 tests are widely ignored; evidenced by the fact that less than 4% (10,000/265,000) of PSCs pay any tax under IR35. This apparently is “unfair”. Although the discussion paper does acknowledge that there are many commercial reasons for people to work through a company, and for businesses to engage individuals in this way. It says: “The government recognises the benefits to the economy of having a flexible labour market and has no intention of stopping people from working in this manner.”
The government’s solution is to reform IR35. But it doesn’t intend to change employment law to alter employment rights of workers or the duties of employers. This ignores the fact that many PSCs were set up to allow the engager to avoid all their employment obligations, rather than to save tax and NIC on both sides.
The discussion paper sets out the following options for strengthening the effect of IR35, which are not necessarily mutually exclusive:
1. Make administrative changes as suggested by the IR35 forum report published in January 2015
2. Improve HMRC’s compliance response – i.e. undertake more IR35 investigations
3. Place the responsibility on engagers to determine if IR35 applies, and require the engager to apply PAYE and NIC to the amounts paid under the contract
4. Simplify the tests for determining if IR35 applies
The options for simplifying the IR35 tests include:
· Taking up some of the OTS recommendations in their employment status report, such as requiring an engagement to last a minimum period before it can be considered to be an employment
· Adopting the test used in the revised agency legislation (ITEPA 2003 s 44) of “supervision direction and control” (see Employment Status Manual ESM2056+)
These options are only broad suggestions; the government doesn’t appear to have a settled approach to IR35 reform, but it does want any change to be as straight forward for engagers as possible, and to minimise the burden on engagers.
This is an early stage of the consultation process which means it’s an ideal time to influence the government’s thinking on IR35. The discussion paper says the government welcomes all views on the implications of a change in the IR35 tests; both positive and negative, and wants to know what your preferred approach would be.
You can respond to the discussion document directly to HMRC by email, or post your comments below and AccountingWEB will make a collective response on behalf of the community.
Rebecca Cave is the author of the Tax Advice Network practical tax weekly newsletter.