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Hot off the press is the latest PAC (Public Accounts Committee) report which says that HMRC’s IR35 rules are far too complex. In essence the PAC state that the intricate and convoluted rules are highly likely to be deterring employers from using contractors and in many cases, actually driving business overseas.

The IR35 legislation,  (aka off-payroll rules), was originally designed to tackle tax avoidance by ensuring that workers deemed by HMRC to be “disguised employees” pay broadly the same amount of income tax and national insurance as regular employees.

In 2021 the IR35 rules were reformed so that the burden of determining employment status shifted from the individual contractor to whoever they were subcontracting to. The PAC report concluded with the statement: “HMRC’s approach to serious abuse is not deterring criminal activity sufficiently, while at the same time, its approach to tackling IR35 is deterring legitimate economic activity.”

IR35 Harming Business: Taking on contractors is risky

Determining whether a worker is deemed an employee ‘inside IR35’, or self-employed ‘outside IR35’ is not straightforward as the rules are complex and difficult to decipher. The fear of litigation and penalties for getting it wrong are prompting many businesses to err on the side of caution and take workers onto the payroll, even when they should be treated as contractors. As a direct consequence of the rule changes, businesses are increasingly using firms based outside the UK to provide these services.

According to the PAC report, since the 2021 reforms came in, nearly 200,000 contractors have been moved onto the payroll as companies play safe or do it simply to avoid the hassle. They go on to say that this puts freelancers and self-employed contractors at an unfair disadvantage.

Dave Chaplin, CEO of tax compliance firm IR35 Shield, commented: “The PAC’s scrutiny of HMRC’s reformed IR35 rules correctly  shows that the new rules are deterring legitimate economic activity, which aligns with what we are seeing on the front line, particularly in the media sector. We are seeing broadcasters seeking to misclassify people as ‘deemed employees’ based on risk, rather than the law, because the broadcaster fears HMRC will say they’ve got it wrong and issue them with a huge tax bill.”

Whilst this was an overreaction by corporates, who are a tad more pragmatic now, nevertheless the new rules do leave them at a degree of risk. They can be trading for several years, paying many contractors, to later have HMRC challenge the treatment. This could then lead to years of litigation and a big tax bill. This uncertainty hanging over a business is not good for anyone and is clearly damaging the UK economy.

IR35 Harming Business: It’s time to review the test

HMRC told the committee that it provides tools and guidance to help employers apply the correct tax  treatment to their workers, but accepted that the tools and guidance may need updating in light of the experiences of employers and a number of recent high court judgments.

The PAC found that In essence, the main problem with IR35 rules is their subjectivity and vagueness. So, you could ask advice from two qualified highly experienced experts and get two entirely different answers.  Multiple cases are going to the courts or being appealed, which only serves to prove that a problem exists with CEST [HMRC’s Check Employment Status for Tax tool]. CEST was brought out by HMRC in an attempt to solve status issues, but it’s distrusted by employers as HMRC have admitted that they won’t even be bound by its results, rendering it effectively useless.

Rebecca Harris, employment status and IR35 expert at Legal Consulting Ltd is concerned that this reliance on case law to determine employment status, rather than the CEST tool, is exacerbating HMRC’s heavy-handed approach to IR35 cases. Recent high-profile cases including Kaye Adams, Phil Thompson and Adrian Chiles, have shone a spotlight on the lengthy and expensive battles faced by taxpayers whose employment status has been challenged by HMRC.

IR35 Harming Business: Is case law HMRC’s go to solution?

The PAC  asked HMRC at their committee hearings, whether their pursuit of many IR35 cases through the courts was fair and proportionate and referenced the Kaye Adams case.  This case went up to the Court of Appeal and then back to the FTT, with the Court of Appeal stating that both the FTT and the upper tribunal had erred in law when the taxpayer had won.  The irony being that when the Court of Appeal sent it back to the FTT, the First Tier Tribunal decided that the taxpayer should be outside of IR35.

The problem is that the taxpayer, in this case the unfortunate Kaye Adams, is a victim of HMRC’s seemingly desperate need to set precedents. Ms Harris added her comment that: “Overall, in my opinion, judging employment status by using case law is proving to be ineffective and costly for both HMRC and business. You only have to look at the Kaye Adams case to see that.  Perhaps it’s time to look again at a statutory test.”

IR35 Harming Business: Further reform is urgently needed

Jim Harra, CEO of HMRC, gave evidence to the PAC and was castigated by a number of the members of the committee, as it was clear that they considered  Harra’s defence of HMRC’s policies did not stand up to scrutiny. Despite Big Jim’s attempts to brush away the committee’s considerable concerns on IR35, they clearly saw through his bumbling defence rhetoric.

The PAC decided that it was clear that taxpayers are not being treated fairly, which is a clear breach of the legally binding HMRC Charter, so as one committee member stated, ‘Parliament needs to intervene now’.

Tax Accountant’s view

I have never been a fan of IR35, mainly because of its inherent unfairness to the taxpayer. With the numbers of taxpayers being wrongly accused of being in scope of the IR35 rules rising rapidly, they won’t have any redress without a statutory independent oversight of HMRC in place. So come on Chancellor, make one of you last acts a positive one and immediately appoint an independent commissioner to oversee HMRC.