A more rigorously policed IR35 is here to stay – at least for the medium term. In the longer term, the only way to ‘fix’ IR35 is to make it irrelevant.
That’s according to the overwhelming evidence gathered as part of the considerable research and analysis ContractorCalculator has undertaken to create our new IR35 Solutions series of articles. Also unavoidable is the conclusion that a realistic IR35 replacement is nothing more than a pipe dream, as other fundamental tax legislation would have to change to give an IR35 successor the slightest chance of being workable.
The only real hope there is of cleaning up the IR35 mess, and avoiding a replacement that could make matters worse for contractors, is for far more profound taxation issues to be addressed. Such changes, which could result from the current Office of Tax Simplification (OTS) review, would render IR35 redundant.
IR35 was created as a ‘sticking plaster’ to deal with workers reducing their tax liabilities simply by choosing an alternative trading vehicle, such as a limited company or partnership. And the unavoidable fact is that there was indeed wide-spread abuse, with high-earning employees leaving full-time employment on a Friday, then turning up on Monday doing exactly the same job but as a limited company contractor.
The then Labour government rightly identified that such people in the Friday-to-Monday club were costing the Exchequer revenue, but it then badly mishandled the introduction of IR35. The original terms of reference of IR35 deemed that Friday-to-Monday folk and perm-tractors who worked on one contract for one client for long periods, were in fact not legitimate small businesses but actually ‘disguised employees’ who should be taxed accordingly. Inappropriate tests of employment based on hugely complex employment law and ongoing case law has since been applied to catch said ‘disguised employees’.
The results have been devastating for true contractors, as this site has detailed over the past decade. But there should be no doubt that IR35 has been successful in raising considerable sums for HMRC, mainly through the creation of the umbrella company sector and the PAYE tax collected from contractors classed as employees of their umbrellas.
Not only has HMRC’s track record of successfully prosecuting contractors under IR35 rules been dismal, but in attempting to apply employment law to contractors, it has become apparent that the concept of ‘disguised employment’ is absurd. This is particularly obvious when we see that HMRC’s tests of employment have clearly not evolved at the same pace as the flexible, highly skilled, knowledge-based workforce.
People work and get paid by those they work for. Some people, by virtue of the sort of contracts they have, their job description and rights and perks, are labelled as employees. Others choose not to be. Yet contractors and employees often perform the same tasks. Typically, an employee has skills learnt by long association with their employer. Equally, contractors bring skills to an organisation that its employees do not have.
Contractors or employees unhappy with the way they’re working can choose to change their status, which is perfectly acceptable in our democracy, which largely operates according to free-market economics. But IR35 is anti-democratic and anti-free market, acting as a legislative bullying device to force workers into roles they did not choose and do not want. Thankfully, there is now a general consensus that after a decade of IR35’s corrosive effects, it needs to be ditched and/or replaced.
But what should be done about perm-tractors, especially those who have been working for the same client for years, who are undoubtedly ‘disguised employees’? The answer is ‘nothing’. Perm-tractors choose to work in the way that they do; if they want employment rights and an employment contract, they can fight for them.
And what about the tax dodgers, the ‘Friday-to-Monday’ club and the ‘incorporating fifty-percenters’ avoiding the top rate of tax? What should be done about them? Again, the answer is ‘nothing’, because the scale of this problem to HMRC and the Exchequer is tiny compared to the much bigger contributors to the ‘tax gap’, such as deliberate fraud and tax evasion.
The only way to ‘fix’ IR35 is to make it irrelevant by addressing the deeper taxation issue of taxing all workers the same regardless of how that income is earned and which trading vehicle is used. The argument that contractors should pay less tax than employees because of the greater risks they take is increasingly difficult to justify, particularly as contractors typically earn more, often much more, than employees and are rarely at risk of non-payment.
In Part 5 of our IR35 Solutions series, we came to the conclusion that:
- In the short and medium term, IR35 should be better enforced until
- In the longer term the fundamental issue of taxation on income is addressed by a wider review of taxation.
Is this realistic? Well, yes, this or something very similar may well come to pass.
I now sincerely hope that IR35 is not changed or replaced – we don’t need any more sticking plasters, just greater clarity and guidance. I suspect HMRC will make a commitment to enforce IR35 more effectively, and use the huge information assets and expertise at its disposal to create a dedicated and expert taskforce to ensure consistency and target those contractors who are clearly not in business and avoiding tax.
I can already hear the howls of protest, and agree that this would mean a greater number of contractors being caught by IR35 and having to pay more tax in the medium term. But that will encourage far more contractors to adopt a professional attitude to IR35 risk than is currently the case. And it would result in a less combative and more collaborative relationship with HMRC, which will be targeting the obviously more blatant cases.
Ideally, we’ll move the contracting market towards some form of external audit model. That would be ironic, as that was the original model proposed by HMRC in its initial discussion documents in 1999. But enough water has now passed under the bridge for a reversion to that common-sense approach not to be seen as a u-turn.
Longer term, we can all dream of a fairer and simpler system of taxation, but whether this will ever come to pass is far from certain, despite the best efforts of OTS. The wait for the day that IR35 finally becomes redundant through a restructuring of the UK’s tax system may be very long indeed.