How IR35 reform will impact UK contractors

Chancellor Philip Hammond’s Budget included the announcement of a consultation into the rules surrounding off-payroll employees in the private sector.

The rules, known as IR35, have already changed for those in the public sector this year but not without controversy. It’s important, therefore, that contractors are aware of what the rules are, how they have changed in the public sector and what might happen if they are extended to the private sector.

What is IR35?

The IR35 rules, named after the Inland Revenue 35 leaflet that originally introduced them in 2000, prevent individuals from setting up as a company and thereby avoid tax and National Insurance contributions. Before this ruling, a worker could leave their job on a Friday and start the same role on a Monday as a limited company (read more about the IR35 rules here).

While the original rule closed a loophole, reforms to the regulations earlier this year marked a big change in focus. The onus was on contractors to evaluate their IR35 status for each contract, and deduct tax in line with this. Now, the responsibility has shifted to companies employing the contractors. Deductions in these cases now need to be made at source, or the employers risk a fine.

How IR35 Reforms Could Affect UK Contractors

If extended to the private sector, companies would similarly have to subtract tax and National Insurance from their contractors’ pay packets.

Contractors, however, argue that they are not employees – and don’t receive the benefits of being members of staff – and fear this change could cost them thousands of pounds a year.

The Guardian reported on an analysis of the changes in the public sector, which showed that some workers could lose as much as 30 per cent of their take home pay.

There have been cases of NHS workers and teachers choosing to leave for the private sector since the April reforms were introduced. Two unions are challenging the way in which the rules have been applied to locum doctors and healthcare workers, while one poll found that 45 per cent of recruiters had noticed contractors were upping their fees to combat IR35 reforms.

Many feared The Budget would see these reforms simply rolled out into the private sector. While that didn’t happen, the Government did choose to consult on IR35 rules, with a report due in 2018.

Speaking on Budget day, PWC partner Julian Sansum told The Times about the ‘inevitability’ of the news, and how it may finally level the playing field between the private and public sectors:

“Changes would shift the responsibility of how contractors should be taxed from individuals to businesses. Most big businesses already do these sorts of checks. It’s the medium and smaller-sized ones that it would hit hardest…most businesses may decide it’s easier to put people on payroll.

“After [the Chancellor] was forced to backtrack on National Insurance increases for the self-employed, this is a gentler nod in the same direction. But…the impact on the public sector has not yet been fully reviewed, it is brave to be landing the changes on the entire business community.”

How To Prepare For IR35 Reform

Many feel the Government’s consultation is pre-determined, not least because financial secretary to the Treasury, Mel Stride, spoke about reform being an issue of ‘fairness’ in a pre-Budget interview.

He said the reforms in the public sector had hit hard, with 90,000 extra workers taxed as employees in the first three months alone. He told The Financial Times: “The public sector has undergone a behavioural change…we are seeing far fewer [workers] offer their services through service companies…yet the private sector is able to carry on with that behaviour unchecked.”

With that in mind, contractors in the private sector would be advised to plan as if the public sector rules will soon apply to them, even if they feel strongly enough to want to lobby against the proposed reform. More details are available in this blog post from Markel Tax, as well as details of how contract reviews can help identify your IR35 status.

Contractors and clients should work closely together – and familiarise themselves with the way in which the rules already work in the public sector, particularly the HMRC Check Employment Status for Tax (CEST) tool – to come up with a more considered course of action.