Limited company contractors have been shown in a broadly positive light in the evidence to the House of Lords Select Committee on Personal Service Companies (PSCs) inquiry. In contrast, IR35 and HMRC have been found lacking.
Two key themes have been emerging: no-one can define a PSC; and limited company contractors should not automatically be viewed as likely tax avoiders.
A significant number of witnesses and contributors have highlighted that not only is there no definition of PSCs, but that it is impossible to develop one. And there’s certainly no way to define a company that is run by a ‘disguised employee’, as opposed to a genuine independent professional, or any other type of limited company for that matter.
There is also near consensus that individuals using limited companies to provide services are not, in fact, tax avoiders by default, which is seen as HMRC’s view. They are simply people adopting a valid way of working that delivers many more benefits than tax efficiency.
HMRC seems to take the view that if you are a one-person limited company providing a service then you must be a disguised employee. The taxman does not appear to apply the same principle to product-based businesses, and refuses to acknowledge that there is fundamentally no difference.
Peers were told by one business organisation that even if there were no tax, there would still be highly skilled knowledge workers using limited companies to trade. There has also been considerable evidence that PSCs are used by highly skilled, highly paid knowledge workers. PSCs are acknowledged to be wrong for low paid, low skilled workers, even though some do use them. But there are existing avenues for HMRC, and other government agencies, to combat this eventuality; however, currently they choose not to.
Time and again, it has been emphasised that limited companies are the model of choice for high-end knowledge workers. There is little evidence of workers being forced into PSCs (although this is not the case for umbrellas and payroll schemes).
‘Simplifying’ IR35 is a non-starter
There have been strong opinions and a great many misunderstandings on IR35, although most agree that IR35 is too complex, that it should be simplified and that “clear, concise guidance must be provided”.
What all too many of the contributors and witnesses fail to appreciate is the inherent complexity of IR35. In reality, it is not possible to reduce decades of case law that experienced solicitors struggle with to a one-pager.
Hopefully peers will appreciate the complexity of the legislation, and not include recommendations for simplifying the guidance, which has been tried and failed in the past. Many of their questions in the oral sessions seemed to be about finding a ‘quick fix’ based on simple education initiatives.
There was strong agreement that placing the responsibility on the client to determine the nature of the contract was a bad idea. Aside from the practicalities, the impact on UK plc would be potentially disastrous, as clients would simply choose not to engage contractors. Many clients would turn to cheap offshore ‘bodyshops’ for knowledge workers instead.
Added to that, as one business body highlighted, what business are the tax affairs of a supplier to its customer? Furthermore, the process of a client conducting due diligence on a one-person supply company may reveal information that could betray confidences and provide unfair competitive advantages. Hopefully the committee appreciated this fact.
HMRC takes a bashing
When it comes to HMRC’s enforcement of IR35, the Lords got the message early on: the resources currently in place are insufficient to police IR35 properly, but even if greater resources were applied, there is considerable doubt as to whether any more tax would be raised.
After all, you don’t hire someone and pay them £300 to £1,000 a day to exert supervision, direction and control by telling them what to do and how to do it. HMRC frankly don’t stand a chance against the highly paid knowledge worker who is ‘tooled-up’ with IR35 best practice, and this was made very clear in the evidence.
But this still leaves genuine businesses in a position of uncertainty about their tax affairs, which is not acceptable. HMRC can decide years after an assignment that it was caught by IR35, and the contractor then has the stress and expense of proving HMRC wrong.
There is a steep cost of continually monitoring and managing working conditions that can be at times counterproductive, anti-business and even downright daft, just to satisfy the requirements of staying outside IR35. It was largely accepted that the new measures introduced by HMRC in May 2012 have, with some exceptions, not helped.
One startling piece of evidence revealed that IR35 was originally supposed to work simply as a deterrent. The idea was that employees would stop the ‘Friday to Monday’ switch to becoming a highly paid ‘consultant’, because IR35 would mean there were no financial benefits. But this never happened to anywhere near the degree hoped.
There is a solution to IR35
Fundamentally, the solution to IR35 – and any perceived unfair tax advantages to incorporation – is to fix the structural problems of the UK tax system. Sadly, that is an unlikely outcome, although most witnesses and contributors fundamentally agree with what IR35 is trying to achieve. That is: if a worker really is, in effect, an employee, then they should pay tax and enjoy rights like an employee.
Committee member Lord Myners described IR35 as an “elastoplast”, and Amey’s tax director Robert Fort called it a “sticking plaster”. That shows a certain meeting of minds to the effect that IR35 isn’t working.
The written evidence by over 40 contributors is approaching 300 pages, and there have been ten oral evidence sessions, during which witnesses from a host of organisations have been presented. It will be interesting to see what the Lords’ final conclusion is in March.