Contained within the Office of Tax Simplifications’ (OTS) recent report on employment status is the suggestion of the introduction of a category of worker sitting between employment and self-employment that might provide a route to the abolition of IR35.
The report seeks to address the long-standing problem of employment status and whilst IR35 is not part of the OTS’s remit on this occasion, there is some synergy with the intermediaries legislation.
It was clear from the outset that the OTS were highly unlikely to solve the complex problem of employment status and instead their broad agenda was:
Improvement routes are categorised under two broad headings, namely:
What was clear to the OTS is that the tax system is stuck in an out-of-date mindset more appropriate to the 1950s and 1960s.
In developing their ideas as to why a problem exists with employment status, the OTS arrived at three key points:
Ultimately the aim is to develop ideas that lead to simple rules that can be readily applied in practice and easy to enforce and with this in mind the OTS has made a number of recommendations:
There should be a joint review between HMRC, Treasury, Department for Work and Pensions and the Department for Business, Innovation and Skills to examine the possibility of drawing up a coherent set of principles, developed from case law, to guide and govern decisions on employment status. However, the OTS remain pessimistic that this can be achieved and therefore at the very least there should be developed clearer guidance, including principles, for tax purposes.
This term is outdated and confusing and should be removed from tax legislation. This would apply to both tax and NIC.
In more than half the countries that the OTS looked at it was found that there were more than two categories of employment, with the most common additional category being independent contractor or freelancer.
In Australia, a business engaging a contractor is required to withhold Pay As You Go (similar to PAYE) tax if:
In the USA, an ‘ABC’ test applies whereby to be considered an independent contractor an individual must meet all three of the following tests:
The OTS believes there are lessons we can learn from a number of countries.
This involves the exploration of a set de minimis level for payments to an individual who carries out some activities for a business, which would definitely not be an employment. This might be in terms of time spent or payments made.
All of the government’s guidance material on employment status should be unified in some form of ’employment status portal’, covering both tax and employment rights.
HMRC should establish an employment status helpline, where businesses are able to discuss specific queries with an HMRC officer possessing the requisite specialist knowledge.
HMRC’s guidance should contain more examples of common real life situations, showing how employment status case law applies to them.
The Revenue should consider allocating more resources to employment status and ensure that more of its employer compliance staff receive specialist training.
The ESI tool allows the user to check the employment status of an individual or a group of workers but at present it cannot be used for PSC workers. It is regarded by the OTS as valuable and who believe that it should be maintained and improved by:
If these improvements are made then the results could be definitive.
This is an idea that the OTS are keen to see tested and would involve a set of rules enshrined in statute. These rules could either be:
In Australia, for instance, where more than 80% of income or time relates to one organisation, the individual is an employee.
An alternative would be to develop a de minimis approach thus:
Reiterating its recommendations made in its Small Business Review, the OTS emphasises that by merging tax and NIC would remove many of the anomalies within the tax system and contribute significantly to simplifying issues around status by reducing the differentials.
There should be a full study into the alignment of tax and NIC payments and benefits across the employed and self-employed.
Tackling employers NIC is the key to “taking the heat” out of the employment status issue. Whilst there is no easy way to abolish what is, in effect, a payroll tax, reform is needed in this area.
Apart from the Construction Industry Scheme, payments to the self-employed are not subject to any deduction of tax at source. The concept of a wider withholding tax for payments to self-employed workers is justified in the following broad terms:
This involves the introduction of a new category of worker, a ‘third way’ between the employed and self-employed, acknowledging that some workers do not fit easily into either of the two traditional positions and that they should be subject to a modified set of tax rules. Freelancers might fall into this ‘third way’ and who might be seen as people who have chosen this route of working and want certainty over their status.
However, this middle status would mean that those covered by it would have to accept the tax consequences that were part way between employed and self-employed. The Freelancer Limited Company idea, for instance, whereby the entity agrees to a fixed but fair salary:dividend split to ensure that some income is exposed to PAYE and NIC.
The OTS is not keen on this concept due to the many difficulties in establishing it fairly, although it has not ruled out returning to the idea should its proponents be able to address some of the OTS’s concerns.
Where there are any ‘quick wins’ that can be adopted from this report then it may be possible for these to be taken forward quickly. However, it is likely that should the report point towards significant reforms, these would be for the next government to consider.
The full report can be downloaded below.