Contractor livelihoods are under threat by a proposed test of false employment arising from the Autumn Statement. It could force all contractors, including those trading via limited companies, to pay Pay As You Earn (PAYE) income tax and National Insurance Contributions (NICs) on all assignments.
This is the interpretation by contractor legal specialist Roger Sinclair of Egos of the Onshore Employment Intermediaries: False Self-Employment consultation and draft legislation in the Finance Bill 2014. If adopted, the legislation will come into force with effect from as early as 6th April 2014.
“The proposed legislation as it is written would introduce a completely new test of false employment. It presumes that contractors are employees for the purposes of income tax and NICs unless it can be proved by the agency that they are not under the control, direction and supervision of the client as to the manner in which they provide their services,” says Sinclair.
ContractorCalculator CEO Dave Chaplin is concerned: “If this reading of the Bill is accurate, clients and agencies would be likely to deduct PAYE and NICs from contractors by default. That’s because they will not want to risk the possibility of future claims by HMRC that they failed to act within the tax legislation.”
Sinclair adds: “The new test of false employment will run concurrently with the existing tests of employment and IR35. However, perhaps unsurprisingly, despite the Chancellor’s expressed concerns about denial of employment rights, the proposed legislation appears devoid of any reference to such rights.”
“A very clumsily wielded sledgehammer”
Sinclair highlights that the government, and the drafters of the legislation, “don’t seem to have grasped the problem” they are trying to address with the legislation. The far reaching consequences of the proposed legislation “may not have been the deliberate intention but may have been a consequence of incompetent drafting”.
But he warns that the legislation, as it is written, “means what it means, would be an act of Parliament and not open to subjective re-interpretation”. So, if the legislation comes into effect in its current form, the consequences may be dire for not just contractors, but the wider UK economy.
“This as a very clumsily wielded sledgehammer, which is likely to have significant disruptive effects to the entire contractor and freelance sector, and to the economy as a whole, extending way beyond the modest nut it appears intended to crack,” continues Sinclair.
If this reading of the Bill is accurate, clients and agencies would be likely to deduct PAYE and NICs from contractors by default
Dave Chaplin, ContractorCalculator
“Like the consultation document itself, the proposed legislation seems to have been cobbled together in haste, and without any real understanding as to its likely consequences.”
A new test of false employment
The consultation highlights that the objective of the changes is to “remove the obligation for personal service”. In the government’s view, this previously fundamental principle of employment law determining employment status provides workers with a ‘get out’ that allows them to pay less tax than PAYE employees.
According to the consultation, the focus of the new legislation is on “whether the worker is subject to, or to the right of, supervision, direction or control as to the manner in which the duties are carried out”.
Sinclair notes that this in effect means that a new test of false employment has been introduced. He says: “The entire body of case law that has been created over many decades by the Courts as to what does and what does not constitute employment will be usurped by a presumption of ‘false employment’, in all cases where there is some kind of intermediary between the end client and the worker. At least, for tax and NIC purposes, though not insofar as employment rights are concerned.”
“This is serious,” says Chaplin. “Because the legislation introduces a new false employment test that is not mutually exclusive from IR35, then it is possible that a contractor who is outside IR35 may be caught by this new false self employment test and still have income tax and NICs deducted at source.”
This as a very clumsily wielded sledgehammer, which is likely to have significant disruptive effects to the entire contractor and freelance sector, and to the economy as a whole, extending way beyond the modest nut it appears intended to crack
Roger Sinclair, Egos
PAYE and NICs deducted by agencies by default to avoid risk
Under the proposed changes, every party in the contractual chain may be a ‘client’ in relation to the person below them in the chain. That means each person below may be an ‘agency’, and so responsible for determining whether the contractor is controlled, and, unless they are able to show absence of such control, for deducting tax and NICs.
So, a typical supply chain might be:
- The individual contractor supplying services to
- A personal service company, which is supplying services to
- An agency, in turn supplying services to
- A consultancy which is supplying its services to
- The end-user client.
The only members in the chain who it seems would not fall within the definition of an agency would be the end client and the individual worker. That means that each and every other member of the chain may be responsible for enforcing the test of false employment and deducing PAYE and NICs.
Sinclair explains: “If there is an individual somewhere down the line providing, or involved in providing, services, unless a company in the position of an agency (as defined) can show that the manner of the provision is not subject to, or the right of, supervision, direction and control, then each such company has an obligation to operate PAYE on everything receivable by the worker. That’s the case even though they may not know who the worker is, or what pay the individual will be receiving!”
Changes proposed by the new legislation
The specific changes proposed in the Finance Bill 2014 are to sections 44-47 of the Income Tax (Earnings and Pensions) Act 2003 (‘ITEPA’). Sinclair’s analysis provides a detailed summary of the changes, but essentially the proposed measures impacting on contractors are:
- The new legislation presumes that any worker engaged via an intermediary is controlled as to the manner in which they work by the client, and (unless the intermediary can show otherwise) income tax and NICs must be deducted at source
- The new rules will apply not only when an individual is obliged to provide personal services, but also when they are personally involved in the provision of services
- Unlike IR35, the burden of proving that a contractor is not subject to the false employment rule is on the agency, and not the worker
- All companies in the contracting supply chain, including agencies, master vendors, consultancies and payroll providers, may fall under the definition of an ‘agency’, and so may be liable for deducting PAYE and employees NICs, and paying employers NICs.
How will control be determined in the future?
Crucially, Sinclair notes that within the new framework it is not for the contractor to demonstrate whether they are controlled, but it is the responsibility of the agency to prove that control is absent.
“Determination of control will boil down to whether an agency, which is ultimately disinterested in the outcome save for managing its own risks, and not generally in a position to know the answer, is able to show that the worker is not subject to supervision, direction and control.”
Sinclair concludes: “The way the bill is drafted at the moment, the whole legislation is a mess and could equally mess up the economy and disrupt the entire contractor and freelancer sector. This is hardly a good advert for a government that advertises its own intentions to simplify the tax system.”
Tell HMRC what you think: The draft proposals and legislation have entered a consultation phase, and contractors and their advisers and agencies are urged to respond with their views to Roger Burton at HMRC before the deadline of 4 February 2014.