As promised, the discussion document on IR35 reform was published by HMRC last Friday and there maybe a hint that HMRC could boil IR35 down to its much favoured ‘right of control’ test.
Having failed to improve upon its administration of the IR35 legislation, despite HMRC’s new approach in May 2012, the government believes that the legislation is not working effectively as it should be and that non-compliance is widespread. If the latter is the case then why have we not seen more successful application of IR35 following the Revenue’s enquiries? After all, we know that HMRC take a risk based approach to identifying non-compliant cases so they can target and concentrate on high risk cases. Perhaps their intelligence or use of it is not what it should be? For example, I am currently defending a contractor in an IR35 enquiry that has been rumbling on for nearly a year now. In the initial opening letter HMRC gave the contractor a choice of the period to be investigated, ie tax year ended 5th April 2014 or the PSC’s accounting period ended 30th April 2013. My client opted for the tax year and busied themselves in providing the necessary information to prove the contract fell outside of IR35.
Five months after the original enquiry letter, HMRC then informed my client that they wanted to extend their enquiries to the previous tax year ended 5th April 2013 as the contractor had been providing their services to a government department, a completely separate end client to that of the following tax year. It was only after the second complaint that the Revenue conveniently mentioned there had been a typing error in their original letter which should have read 5th April 2013 rather than 2014! Furthermore, HMRC told us that they had first identified the public sector risk in August 2013 but it wasn’t until November 2013 that they passed the information on to their Local Compliance team for consideration and then a further 15 months before they decided to do anything with it! That is totally unacceptable and illustrates how inefficient and inept this department is at times.
Apparently the government recognises the economic benefits of having a flexible labour market and has no intention of stopping people from working via their own companies. That’s as maybe but we quickly learned the other week that the government are making incorporation less attractive.
The number of people paying tax under IR35 has apparently remained static since its introduction 15 years ago despite the number of PSC’s increasing. In 2012/13 the government estimates that there were approximately 265,000 PSC’s which represented an increase of 65,000 on the previous year. This number is expected to continue to increase.
Non-compliance with IR35 is estimated to cost the Exchequer £430 million in tax and NIC this year alone and, without reform, this loss will rise. The government is also concerned that non-compliance will also erode the behavioural impact of the current legislation.
Foundations for reform
Whilst the government will now listen to proposals for overhauling IR35 these must conform to the following objectives:
Protecting the Exchequer;
Levelling the playing field between employees and ‘disguised’ employees; and
Making legislation as straightforward as possible to comply with and not creating disproportionate burdens on business and individuals.
Options for reform
To start the ball rolling HMRC has come up with a few suggestions themselves.
Administrative changes and compliance response
HMRC believes that their new approach to policing IR35 over three years ago had some positive outcomes! Not from where I’m standing it didn’t. The department may have started out with good intentions but it didn’t take them long to slip back into their old ways.
There is wide scope for reform in this area but the government believes this alone is not sufficient to tackle the size of the problem.
Making engagers culpable
End clients would be required to ensure that any contractor they take on was genuinely self-employed or suffer the tax consequences. Where they considered IR35 applied then they would have to deduct PAYE tax and NIC.
For too long end users have had the luxury of keeping the IR35 problem at arm’s length and perhaps forcing them to get involved in the process of verifying employment status or be held jointly and severally liable for getting it wrong would sharpen their focus. If status was discussed from the outset of the contract between all parties, then this would give greater assurance to both freelancer and end client alike.
This proposal would however require end clients to be educated in the ways of IR35 and the fear would be that we would end up with a scenario similar to that of public sector appointees whereby , out of ignorance, the end user defaults to a position of IR35 applying.
The government recognises that this would increase the burden on engagers and welcomes views on how this process could be made as straightforward as possible for them to determine whether or not IR35 should apply. What about the burden contractors have been carrying for the last 15 years!!
Simplifying the IR35 test
The suggestion here is to use the right of control test as the sole determinator of IR35 status. This is the one I believe that HMRC may well favour simply because they have used it in two recent pieces of legislative reform.
Some of the Office of Tax Simplification’s original suggestions could be revisited, such as requiring an engagement to last a certain minimum length of time to be considered one of employment.
Your views and opinions on the options for IR35 reform count and contractors, along with other interested parties, have until the end of September to make their comments by e-mailing HMRC at firstname.lastname@example.org.
If the government decides to go ahead with IR35 reforms then any proposals will be subject to a full consultation before legislation is enacted.
Regardless of how cynical and apathetic some may feel about IR35 reform, this is an opportunity to contribute to potentially reshaping and improving this cumbersome legislation. Don’t let it pass.
The full document can be viewed HERE