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HMRC’s CEST figures, obtained by FOI, indicate widespread wrongful tax treatment

Figures finally released by HMRC, after an 11-month investigation by ContractorCalculator into its Check Employment Status for Tax (CEST) tool, suggest that thousands of contractors could have grounds to appeal against wrongful tax treatment, resulting from unlawful blanket assessments conducted by public sector hirers.

Though HMRC had blocked a series of Freedom of Information (FOI) requests from ContractorCalculator, which sought statistics detailing the results issued by CEST, an appeal resulting in an eventual intervention from the Information Commissioner’s Office (ICO) has finally yielded the requested data.

The figures show that a surprising 54% of assessments conducted by CEST have determined that IR35 does not apply to the contract. Given that many public sector contractors have found it impossible to secure an outside IR35 contract – due in large part to the blanket assessments conducted by many public sector bodies (PSBs) – these findings look set to heap on further questions surrounding the tool and the chaotic implementation of the public sector IR35 reforms.

  • Thousands of contractors are being overtaxed due to unlawful blanket assessments
  • HMRC’s application of CEST is stoking IR35 non-compliance among hirers
  • Hirers are now at risk of costly legal challenges for unlawful deductions of tax
  • CEST shortcomings generate unreliable results, creating further uncertainty
  • Findings prove neither reforms nor CEST are ready for private sector rollout.

The disclosure comes just days after the Institute of Chartered Accountants in England and Wales (ICAEW) wrote to the Financial Secretary to the Treasury, advising that CEST is not suitable for use in the private sector.

HMRC figures highlight public sector IR35 non-compliance issue

Analysis of the figures provided by HMRC shows that, while 54% of assessments indicate that IR35 does not apply to the contract, roughly 31% suggest that IR35 applies, with 15% proving inconclusive.

HMRC claims not to hold statistics specific to limited company contractors, with the figures provided combining results returned to limited company contractors and sole traders on their deemed employment status. However, when we consider that the same questionnaire and decision engine are used in both instances, and that the tool has been used over 500,000 times, it is a comfortable assumption that these figures apply to IR35 determinations.

“The big question is: if so many public-sector contractors are outside of IR35, how is it that so few are receiving the equivalent tax treatment,” says ContractorCalculator CEO, Dave Chaplin.

“CEST has determined that roughly half of contractors aren’t caught by IR35, yet we’re somehow seeing PSBs where 100% of contractors have been ruled inside IR35. With HMRC unable to prove CEST’s accuracy, it’s clear that many hirers would sooner adopt blanket ‘inside IR35’ approaches than accept the risk that accompanies placing their trust in CEST.”

He adds: “We know that blanket assessments have been imposed across the board within the NHS and Ministry of Defence (MoD), and on other key projects. As it becomes increasingly evident that, regardless of CEST’s advice, many hirers are taxing contractors as employees, contractors are well positioned to mount legal challenges.”

Is HMRC encouraging non-compliance with IR35?

Despite repeatedly stating throughout the development of CEST that it would stand by the assessments delivered by the tool, HMRC made a U-turn upon its release. Online guidance accompanying CEST states two circumstances in which the taxman may challenge the tool’s decision. These are:

  1. Where HMRC considers the information provided to be inaccurate
  2. Where HMRC believes that the arrangement is contrived.

“HMRC has essentially granted itself the freedom to challenge any assessment that it sees fit,” notes Chaplin. “Though hirers and agencies are effectively coerced into using the tool by HMRC, they know that an outside IR35 evaluation from CEST still poses consierable tax risk. The disparity between the number of contractors who pass CEST and those who are taxed as being outside of IR35 is no coincidence.”

Why won’t hirers stand by CEST assessments?

Aside from the risk of being challenged by HMRC, the various shortcomings of CEST are fuelling further uncertainty among hirers and agencies. ContractorCalculator has conducted a comprehensive evaluation of CEST, highlighting some key flaws.

Notably, half of the passes issued by CEST are based on the user passing the substitution test alone, with no further analysis conducted. Given the rarity of an actual substitution taking place, this is dubious; especially when you consider that, in the most recent IR35 case – MDCM Ltd v Revenue & Customs – the tribunal dismissed the contractual right to substitution.

“This would suggest that half of CEST’s passes are extremely fragile, and the 54% figure is largely irrelevant in light of the evidence demonstrating that CEST doesn’t provide the correct answers,” comments Chaplin. “Tossing a coin would give roughly the same result.

“This creates a risk for hirers and agencies. Receiving a pass from CEST is the equivalent to being presented with a dodgy MOT certificate. In light of this, it isn’t too surprising that so many hirers have taken the supposedly risk-averse option.”

Public sector contractors prepared to litigate

Although hirers and agencies may perceive the adoption of blanket IR35 assessments to be a low-risk strategy, the release of these figures has served to underline the strength of the legal position in which affected contractors now find themselves.

While there is currently no known appeals process via HMRC for individuals looking to contest their IR35 status decision in the public sector, contractors are well within their rights to litigate. Another potential route is to claim unlawful deductions from wages through the employment tribunals.

The irony is that the accumulative costs of mounting a legal defence, and the tax liability in the event of a tribunal loss, will likely far exceed any initial savings made by hirers and agencies who have flaunted their responsibilities.

“A large portion of contractors have been wrongly assessed as caught by IR35, forced into false employment, and consequently wrongly and overtaxed. They can litigate against the client and/or agency for unlawful deductions of tax,” explains Martyn Valentine, director of The Law Place.

“Even some contractors who are genuinely caught inside IR35 could successfully bring action. We know of numerous instances where public sector bodies have deducted their own tax burdens, including employer’s National Insurance (NI), from the rates agreed with contractors. Provided expert legal advice is obtained, the affected contractors can reclaim what is rightfully theirs.”

IR35 and CEST – not fit for private sector rollout

HMRC maintains that the reforms have helped improve compliance with IR35. However, if CEST’s assessment figures are anything to go by, the taxman’s increased tax yield is merely a result of rising non-compliance – this time among hirers and agencies.

“ContractorCalculator is in possession of a great deal of evidence demonstrating occasions where contractors have received CEST assessments deeming them to be outside of IR35, yet the PSB has refused to allow them to operate outside IR35. This even includes contractors who have actually substituted during their contracts,” says Chaplin.

“Some of these decisions were project-wide and on major infrastructure projects. We have seen documentation stating that contractors would be considered caught by IR35 by default, and that employer’s NI will be deducted from their agreed rates. This is unlawful. Employer’s NI is supposed to be paid on top of the agreed rates and by the “deemed employer”.

“It’s evident that asking hirers and agencies to assess IR35 status has been a massive error of judgement,” Chaplin concludes. “Promoting CEST, a tool intended to support hirers, but which creates even more uncertainty instead, has only compounded the situation.

“The frictionless model of flexible working, where both parties have certainty, has eroded. The reforms have effectively poured glue on the flexible economy. Introducing these changes, and CEST, to the private sector in their current format, would prove catastrophic.”

How can contractors claim their tax back?

ContractorCalculator has been working with lawyers and barristers to form the legal arguments from which to reclaim the taxes back. There will be potentially three routes available, all depending on the contractors situation - either via employment tribunal, country court, or directly with HMRC.

We are working with lawyers who will be able to examine cases swiftly and prepare legal letters for contractors who wish to take action. More will be released in due course, either on ContractorCalculator or via our LinkedIn channel.

To keep informed, join ContractorCalculator free today, and follow or connect with our CEO Dave Chaplin on LinkedIn for updates. Dave is fully embroiled in the campaign against the IR35 reforms, and his profile provides many useful updates for contractors affected by the changes.

Published: 25 April 2018

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