Why IR35 reform is bad for business and contractors

As already widely reported the controversial reforms to off-payroll working rules will go ahead in April 2021.   Several MPs including David Davis tabled an amendment to the Finance Bill to delay the bill until April 2023 but the motion was defeated back in July this year.  There have been other calls from other groups for the changes to be scrapped.  The Lords select committee urged the government to “completely rethink” the IR35 rules in a damning report which found the changes would greatly add additional burden on businesses and was fundamentally unfair on contractors. 

Currently the current rules only apply to the public sector but HM Treasury has always maintained reform was necessary to address “fundamental unfairness”.  So it will be extended to all Sectors in April 2021.    

That means in April 2021 all medium and large private sector businesses in the UK will become responsible for setting the tax status of any contractor.  This is unnecessary as all Accountancy Firms, Contractor Specialists, Businesses and their HR Departments self-regulate and ensure that the rules are followed.    They will ensure the correct decision without bias.   They advise Contractors on their status and Depending on the IR35 review the Contractor will either be on the payroll (Umbrella or Direct) or if outside IR35, in most cases work through a limited company.  The main Accountancy Institutes CIMA, ACCA, ICAEW issue guidance which further strengthens compliance.

In this article we are going to explain why this regime change is bad for both business and contractor and we will argue that the scheme will not greatly increase HMRC revenues.  However, HMRC believe that an additional annual £1.1 Billion by 2023 (Many doubt this) will be raised but it does not take into consideration the detriment to business which is difficult to assess in monetary terms. Other surveys by Contractor experts calculate a reduction in tax revenues as a result of the reforms. 

Hopefully the HMRC legal challenges going through the Courts over the next year will bring about some consistency and less ambiguity.   Businesses will start to have a clear understanding of how they can hire contractors and freelancers compliantly and within the rules.     The hope is that some common sense and normality will return.

Already this pending legislation is having a marked impact on the number of contractors taking up full time employment.  Businesses are already abandoning contractors rather than risking non-compliance and an additional tax bill.   Our firm is seeing a definite downward trend in the number of contractors remaining freelance.

As already stated we are going to focus on why this reform is bad for business and contractors.    We have written a recent brief article “IR 35 review and how to stay out” and it explains what you need to do to stay outside IR35.  So here are our arguments for why this reform is bad for business and contractors:

  1. If you are genuinely working outside of IR35 then you should be able to continue to do so after April 2021.   However, the concern is that some businesses and agencies will err on the side of caution and begin to place more contractors inside IR35 to avoid any potential problems with HMRC.  We have already seen evidence of this in the NHS and we are now seeing the same approach in the private sector.    It is vital that businesses do what is right and avoid knee jerk reaction.   Contractors are vital to business and business must continue to avoid being scared into doing something fundamentally wrong that hurts the business and the contractor.
  2. A recent case – A doctor undertook eight individual assessments on her employment status with an NHS trust.    Three of those tests were using the HMRC CEST tool and each time the tool determined that she was outside IR35.   After the NHS trust refused to accept her proof of status the Doctor undertook five further private assessments.  Each assessment reached the same conclusion.  Every one of the assessments that the Doctor undertook established a lack of control imposed upon her and an absence of mutuality of obligation (MOO) two key factors proving that IR35 did not apply.  The doctor incurred costs of £20,000 in proving her status but the NHS trust carried out their own flawed evaluation (inputting their own answers) using CEST and found her to be inside IR35.   So the Doctor worked elsewhere.  The result was that the NHS Trust did not secure the best doctor and absolutely nothing was achieved and no one benefitted.   The point is that if the private and public sector are so scared of the new rules and just roll over and concede, it will result in both the business and the contractor losing out.  It is also vital that qualified individuals carry out the IR35 review and the CEST assessment.  Evidently this was not the case here.
  • So let’s now look at CEST.   CEST stands for “Check employment status for tax”   Many contractor experts are asking if HMRC is forcing the NHS to use CEST.   Will they force the private sector to use CEST in April 2021?     In fact the test is fundamentally flawed because one of the key tests of employment MOO is excluded from the Questionnaire.   The current fears with the NHS using CEST are:
  • Unqualified NHS representatives using the CEST test.
  • Poor understanding of the legislation.
  • Important MOO factor omitted from the CEST test.
  • HMRC insistence on NHS using a flawed test.
  • Fear factor.   Many NHS trusts feel obliged to use CEST to avoid future issues with HMRC.   Will the same happen in the private sector in April 2021?
  • The reform will have serious consequences for hundreds of thousands of businesses and contractors with hirers facing potentially higher costs and some workers looking at significant cuts to their income.   On top of that the additional administrative burden to both.    Businesses could actually face higher costs having to pay more when you add in the possible higher rate and possibly some employee benefits that will have to be paid to woo the Contractor.   Contractors will see the monthly take home pay go down and they may look abroad or change the way they work. Hirers and Employers will face increases in NI which they will try and pass on to the contractor forcing the contractor to take lower wages.   Contractors in high demand with highly sought-after skills will be more able to negotiate a higher rate and they may not be too much out of pocket.  Those with less bargaining power will be the most out of pocket and they are probably the ones that can least afford it.
  • There is currently no statutory appeal process.   There is only a client-led dispute process which would be unenforceable by HMRC.   This potentially leaves the contractor with no real power to appeal the decision.  
  • Another potential problem for Contractors is those contractors seeking to gain employment rights via an employment tribunal. Contractors thinking about taking this route need to recognise that HMRC may open inquiries into their past tax affairs.   If they had previously said they were self-employed but are later found to be entitled to employment rights may open the door to a tax inquiry.  So caution needed.    It seems the contractor is going to lose on all fronts.
  • Accountants BDO say “The tax rules don’t correlate with your [employment] legal status, so whether you’re employed for tax purposes could be different from whether you’re considered a worker legally and entitled to employment rights like holiday pay, sick pay and unfair dismissal protection.   You could end up in the awful situation where you are considered employed for tax purposes but don’t have any clear legal status as an employee.” The ICAEW has called on the government to resolve this tension in the law. “Tax, national insurance contributions and legal status of work should be the same, certain and comprehensible,” it said in response to the government’s consultation on IR35. “Failing to address these issues will perpetuate the current uncertainty.”   So imagine the situation where a contractor pays payroll taxes and NI as an employee but does not have the same legal employee rights.   That is why this legislation/new reform is so unfair.
  • We can now look at the detriment and cost to business and contractor with some clear examples of how this reform will adversely affect all sectors:  
  • The HMRC argument that the IR35 reform will achieve a fairer tax system is a total misunderstanding of IR35.   HMRC insists that two people doing the same job should pay the same amount of tax but how is that possible or fair when a contractor receives no employee benefits and has no job security?  HMRC point out that a contractor being paid the same amount as an employee doing the same job pays less tax because NIC’s are avoided.    This dichotomy has not yet registered with HMRC.    HMRC are delusional to think that contractors will accept having the same amount of tax deducted as employees, without receiving employment benefits and job security.  Contractors will simply demand higher rates.
  • For the public sector are we seeing a contractor exodus?  Many contractors have already left the public sector resulting in key staff shortages.   As already pointed out some locum doctors have stopped working altogether for the NHS.   Other lower paid contractors in the NHS are better off taking jobs elsewhere, leaving the NHS altogether.  Those contractors that stay on working for the NHS are demanding much higher wages to compensate for the increase in taxes.
  • We have already seen Transport for London (TFL) projects delayed due to vital contractors leaving TFL as a result of changes to IR35 in the public sector.  This impacted on the London underground repair programme in the capital.  Also, many UK government IT projects have already suffered delays due to contractors quitting over the IR35 tax clampdown.   In fact many Government projects and public services are in difficulty following the reforms to IR35 in the public sector.   The same will happen in the private sector when the reform starts in April 2021.
  • Contractors are vital to the British economy.  Businesses can tap into these resources quickly and get the expertise they need for short and medium term projects.   The IR35 clampdown will not raise HMRC taxes.   It will not do what it is intended to do and despite widespread disapproval of the scheme by business, accountancy bodies, a number of high profile MP’s, House of Lords etc…. it is going ahead in April 2021.   The hope is that common sense and normality returns and businesses are not scared of doing the right thing and HMRC eventually sees sense.

If you require further information please contact us.  As Accountants, Tax Compute will always advise what is best for the client.   Give us a call and we can offer you a free consultation and advice on what is best.  

Contact for more information

Jon GUNNING

Cheltenham Office

jon@taxcompute.co.uk

Tel 01242 241998