IR35 Enquiries Quadruple

Evidence to Lords Select Committee reveals increase in IR35 investigations

Last week two HMRC officials, Rowena Fletcher (Deputy Director with special responsibility for the Employment Status Team) and Robin Wythes (Team Leader of the Employment Status Team) gave evidence before the House of Lords Select Committee on Personal Service Companies.

As part of their evidence it was revealed that, in the last tax year, 256 new IR35 enquiries were opened, with a further 112 investigations in the first six months of 2013/14. This is a marked increase on the 59 enquiries that were carried out in 2011/12.

Enquiry statistics

Wythes said that HMRC intend to undertake 250 new enquiries each year in keeping with the last and current tax year.

The length of an average enquiry, from start to finish, has been shortened to 28 weeks since April 2012. This is a most encouraging improvement from earlier years when average enquiry lifetimes were 110 – 140 plus weeks. Many of the cases that took 28 weeks to conclude resulted in nil tax liability. Equally heartening to hear was that where HMRC came to the view that IR35 did not apply they closed the enquiry as quickly as possible rather than prolong it as was the case in years gone by.

Only five cases currently under investigation are expected to proceed to the Tax Tribunal.

Risk factors

IR35 enquiry work is carried out by 40 staff plus managers and support staff. These officers are deployed in accordance with a spectrum of risk factors ranging from optimum tax yield to other factors such as coverage across various sectors so that contractors do not become complacent in feeling they are immune from investigation just because they work in one particular sector. According to Wythes, HMRC do not focus exclusively on cases that will raise the most revenue to the Exchequer.

Fletcher confirmed that HMRC do not routinely target a particular sector but where the department gathers data and intelligence that relates to a specific sector that may naturally give rise to an increased number of enquiries into PSC’s operating within that sector. The current spate of public sector enquiries is such an example.

Population growth

HMRC estimates that the current PSC population is around 200,000 which is the figure they used in 2010. This is more than double the figure they estimated when IR35 was about to be introduced in 1999 – 90,000.  Whilst the Revenue attribute this rise to the evolution of the UK labour market, primarily for commercial reasons, they do consider tax avoidance/mitigation to also be a factor.  However, the department do not routinely estimate the size of the PSC population as they do not consider it useful information. Nor do they estimate how many PSC’s the Revenue think IR35 applies to, although at the time IR35 came in they believed 50,000 out of the 90,000 PSC’s were within IR35.

It was refreshing and reassuring to hear that HMRC do not consider a PSC itself as inherently risky. Perhaps they would tell the media that! In fact the Revenue actually engage eight contractors, all of whom are occupational psychologists. One of those eight earns over £58,200, that being the level at which a public sector body must seek assurance from a freelancer about their IR35 status. HMRC are satisfied that these contractors are genuinely self-employed by virtue of the fact that work is delegated to others whom the contractors control and pay.

Effectiveness of IR35

HMRC consider the main impact of IR35 is its effectiveness as a deterrent rather than a revenue raiser, which is just as well because during its lifetime it has only managed to raise just shy of £10 million.

Fletcher explained that the Exchequer risk when IR35 was first introduced was £475 million and that has remained unaltered. The Exchequer risk is comprised of the Exchequer yield from those who are inside of IR35 plus the deterrent effect, which is the element that forms the larger portion of the £475 million.

When asked to give an estimate of the costs to police IR35, unsurprisingly HMRC does not possess such information.

IR35 administration

HMRC believe that understanding of IR35 has improved over the years as people have got used to it, although Fletcher admitted that more needs to be done to improve awareness and that some non-compliance is down to a lack of awareness or understanding of the rules.

The Revenue had received a lot of negative feedback through the IR35 Forum about the business entity tests and that these were “being manipulated to contrive a score”.  The tests are currently under review to establish if they are fit for purpose or whether they can be improved upon.

This Monday saw the turn of, amongst others, Jason Piper (Technical Manager, Tax and Business Law at the Association of Chartered Certified Accountants (ACCA)) to give evidence.

Piper said that he was “independently aware” that HMRC is monitoring the ratio of salary:dividend as an IR35 risk factor. Whilst this is an obvious and logical conclusion to draw it must be stressed that this factor alone will not drive an enquiry.

Mr Piper did point out that few people in the Committee room that day believed IR35 was a useful deterrent. He also made an observation that only 0.1% of the contracting community are being investigated each year whereas there should be 20,000 enquiries annually if IR35 is to be policed properly. To achieve such a target however would require the involvement of 3,000 HMRC officers.