The taxation rules for contractors will change. Currently, end users (a simple definition is businesses who engage the service of a subcontractor via a service company) can rely on IR35 to avoid employment and tax implications arising on payments made to contractors trading via a personal service company.
The government intends to reduce the benefits of operating personal service companies in addition to proposing changes to IR35 regime that will shift the tax and national insurance compliance burden of IR35 from the personal service company to the businesses who engage them – the end user.
Businesses who formally did not need to concern themselves with the tax position of contractors providing services via limited companies will now have to be very concerned.
The government closed a consultation into IR35 in September and is now reviewing consultation responses. The planned implementation date is unknown as of yet but it could be in 2016.
HMRC does not wish to abolish IR35. Instead it wishes to introduce changes which will bolster its powers. HMRC wants contractors to be taxed as if they were employees and for PAYE to be operated. HMRC no doubt see the end user as a more expedient tax collection mechanism than the contractors.
Key proposed changes:
The end user will have the obligation to operate IR35 on behalf of individual contractors operating via personal service companies. This means that it will be the end users who will carry the administrative burden of complying with IR35 and who will be exposed to investigations by HMRC seeking to collect income tax and national insurance under PAYE. This is unlike the current position where HMRC investigates the personal service company but not the end user in most cases.
Simplifying the tests for IR35 by focusing on the level of end user supervision, direction and control over the contractor. This means that potentially more people will fall under IR35.
Introducing a minimum working time requirement. The new legislation would require that the contractor works a certain minimum amount of time to be considered an employee. The government has not yet specified what the minimum would be.
Extending IR35 to other types of intermediaries, not just personal service companies. Even though the scope of this change is unclear as the government did not elaborate on what other intermediaries are intended to be affected by this change it is evident that the IR35 net is cast wider and wider and the changes can affect for example, umbrella companies.
The use of contractors is wide spread. Even though the consultation document does not specify whether the law will be retrospective I is accepted that the new rules will be of wide application. There will be change and the inevitable increase in costs due to the PAYE compliance. Many businesses will decide the risks are too great and move to fixed term employment contracts in place of contractors. However, with fixed term employment contracts comes the cost of complying with employment law legislation such as holiday pay, maternity/paternity, work place pensions, etc. Employers will require professional advice in drafting fixed term contracts to ensure the employer is suitably protected.
Reducing the benefits of using a personal service company
The July 2015 Budget contained several announcements that will have implications for contractors. These include:
- Removing the NIC employment allowance for companies whose sole employee is a shareholder and a director;
- Taxation of travel expenses to and from any assignment where an individual is working under control and supervision; and
- Abolishing tax credits on dividends and substituting it with the new dividend allowance. This change applies not just to contractors. The change increases the tax payable by everyone receiving dividends.
The government has indicated that additional funds will be made available to HMRC to tackling IR35-related tax avoidance in order to collect tax which would have been paid had the individuals been properly classified as employees.