IR35 it’s time
Whenever I see an article on IR35 or see a mention of it on HMRC’s website, I can’t help a feeling of déjà vu creeping over me. HMRC keep on hinting that they’re going to abandon it and then, low and behold, they give it another minor tweak and keep it in their armoury of weapons to potentially beat us over the head with.
The overwhelming majority of Accountants, including your truly, believe that IR35 is now broken beyond repair and should be replaced with something simpler.
The consensus of opinion is that it should be replaced with a new class of employers’ NIC to be paid by the engager of the company that provides the labour (aka “personal service company” or PSC), where that engager is deemed to be the ‘employer’ using the current employment status tests. This new class of employers’ NIC (let’s call it: class 1D) could be set at an equivalent rate of secondary class 1 NIC, currently 13.8%.
This makes sense as the current taxing principle is that employers should pay employers’ class 1 NI. Under the current IR35 rules it is the contractor’s company – the PSC, and hence the contractor ultimately, who bears the employer’s and the employee’s NI.
It is just not true that the engagers of PSCs pay higher amounts to compensate for the employers’ class 1 NIC they are saving. The tax savings under IR35 are mainly reaped by the big businesses and public sector organisations that pay the PSC a fee equivalent to the gross salary they would pay to an employee doing the same job. This results in a higher rate taxpayer paying a marginal rate of tax of 48.6% under IR35, which compares to 42% paid by an employee (both figures including NIC).
The tax lost through non-compliance with IR35 has been estimated by the Office of Tax Simplification and by the House of Lords to be over £400m a year. Not surprisingly HMRC have calculated the figure differently and their estimate of the tax lost through structures which should apply IR35 to be £550m a year, which I calculate is just about enough to run the UK government for 6.5 hours.
Three reasons why IR 35 should be scrapped
Reason One
Firstly, the solution to IR35 avoidance proposed in a recent HMRC consultation document is to require the deemed employer to deduct employee’s NIC and PAYE from the fees paid to the PSC, which in my opinion is just asking for trouble. David Kirk, a leading expert on employment status who has spent many years dealing with IR35 disputes, says: “The RTI system is not designed to collect money from the end-users of labour where there is a string of companies in the contract, and any attempt to do so is going to end in tears.”
Reason Two
A second argument for scrapping IR35 right now is that a new regime for travel-to-work expenses is due to apply from 6 April 2016, as set out in the consultation document on Travel and subsistence. From April 2016 the normal employment tests will apply when deciding whether a PSC is within IR35, and a different test (based purely on supervision, direction or control of how the work is done) will apply for deciding whether travel-to-work expenses can be claimed. Given the current mess of conflicting opinions, both in my profession and within the Revenue, I have no confidence that tax advisers or the inspecting HMRC officers will get the distinction right.
Reason Three
A third reason for scrapping IR35 is that the tax charge is unfairly applied by HMRC. Where a PSC is found to be caught by IR35 it will have to pay enormous amounts of PAYE and NIC covering up to six years. That tax will be deductible against corporation tax, but there is a four year time limit on reclaiming ove paid corporation tax. Also the individual will have paid higher rate tax of dividend income which needs to be reclaimed – by five years and ten months after the end of the relevant tax year. HMRC refuses to set-off the tax due against the repayments of CT and income tax, but will charge interest at 3% on the tax due and only pay interest of 0.5% on tax repayments. In my experience this interest discrepancy could add a whopping 50% to the overall bill.
A Tax Accountant’s opinion
The problem of IR35 will not go away, particularly as public sector organisations, especially Local Councils, most of the semi-governmental Quangos and even our beloved NHS are increasingly making staff redundant, then rehiring them as long as the individual operates through a PSC, thus saving the Council, NHS et al money and they’re doing so blatantly without a murmur of disapproval from Lin Homer and her HMRC storm-troopers.
IR35 should therefore just be scrapped (my preferred choice) or, as I suggested earlier in this article, replaced by a new class of NIC paid by the organisation contracting out jobs.
So there you have it folks, is the light starting to dawn or is it still clear as mud?
If any of you would like more detailed information on any aspect of UK Tax, send me an e-mail and I’ll be pleased to advise further.
David Jones is the Senior Partner and Founder of Morgan Jones & Company. Born in Liverpool and an Accountancy graduate of the University of Wolverhampton, David spent twenty years working for the Customs & Excise in London then Shrewsbury before starting his own business. David's depth of knowledge of the UK tax system and his ability to communicate this learning has seen Morgan Jones & Company grow into Shropshire's most respected Accountancy Practice.