In recent months, a significant number of articles focusing on IR35, the changes introduced in April 2017, and the impact of these changes on those who provide services within the public sector, have been published. Many of these articles have not considered the impact of the changing approach to IR35 on the accounting profession.
Background
The IR35 rules came into force in April 2000 and apply when an individual provides their services to an end client via an intermediary. The rules have effect in cases where the terms of the arrangement would be considered “employment” if these services had not been supplied via the intermediary.
In most instances, the intermediary concerned will be a personal service company set up by the individual undertaking the work. If a contract falls under IR35, then the rules require that, in the taxation computation of the intermediary, expenses which would not have been permitted to be claimed for tax purposes had that worker been employed, are added back.
As a result, if IR35 applies, there is no real tax advantage of that worker being engaged off the payroll by the end client.
Since the introduction of these rules, there has been limited compliance activity by HMRC due to challenges over whether or not IR35 should apply.
Despite the Public Accounts Committee raising their concerns over this lack of activity, HMRC has defended its position, arguing that it is difficult to identify which of the company accounts would relate to personal service companies.
It is true that the legislation is complex, and inspectors do not appear comfortable undertaking challenges in this area. It is also true that there is a lot of misunderstanding and confusion within the profession on IR35. Much of that confusion has arisen given the complexity of the tax legislation and the limited case law available to obtain additional guidance. The lack of HMRC activity means that many who have advised on IR35 have never had their opinions challenged, and this means that many of those historical misunderstandings continue to remain in place.
The discovery in 2012 that certain senior civil servants had been engaged off payroll created significant embarrassment to the then government. In response, it introduced temporary controls to capture any future abuse, but those measures did not seem to be effective, resulting in the Public Accounts Committee exerting pressure on HMRC to better police this area.
In April 2017, we saw the introduction of new rules applying to those engaged in the public sector. These changes require the end client to undertake an assessment when engaging a contractor via an intermediary. This is to see whether, by the nature of their contract, they will be caught under IR35. If it is the view of the end client that IR35 arises then they are required to deduct income tax and National Insurance on payments made via their payroll. That tax and National Insurance can be offset against the end of year liabilities of the personal service company. HMRC has provided a tool to help the end client determine whether – given the nature of the assignment – it falls within IR35 (the CEST tool).
Recently, HMRC consulted about extending the rules that apply to the public sector to the private sector. It has been suggested that this revision may occur in April 2020, but we will learn more in the next Budget statement by the chancellor.
Mel Stride, the Financial Secretary to the Treasury, in an interview with Accountancy Age earlier in the year, stated that he felt it was only fair to extend the rules into the private sector, so everybody was dealt with on a similar basis.
The current position
The possible extension into the private sector of these changes to the IR35 rules has been met with real concern. Despite the change having occurred over 12 months ago, there is still a considerable amount of negativity being expressed in the media. The complaints centre around how accurate the CEST tool is and how the public sector body is assessing the clients they engage. It is clear that CEST will always favour HMRC and that some of those complaints raised are being posed by those who have not understood IR35 fully.
Furthermore, it has been argued that some agencies are coming up with ways of avoiding IR35. There is real frustration that we are now over 12 months into the new scheme and yet we have not seen heavy HMRC action to close off this possible abuse.
There is also considerable frustration that, if an end client under the rules decides that the engagement is caught under IR35, the worker does not have any right of appeal. Clearly this only creates a timing issue as the income tax and National Insurance will be held to offset against their year-end liability. However, in reality, if the client believes the contract is caught under IR35, HMRC is unlikely to accept the argument that the assessment was incorrect.
Accountancy profession and its position
There are four significant issues that those in the accountancy profession need to be mindful of:
- If HMRC is successful in getting end clients to accurately determine which contracts fall within IR35, we can expect a considerable number of people finding that their salary is being taxed at the source. As many will be annoyed at this change, it is likely they may consider whether there is any benefit going forward to being engaged via a limited company. Instead, they may move to being directly employed. Of course, this theory assumes that the end client will be prepared to take that person onto their payroll, and therefore onto an employed contract. The result of that exodus from limited companies is likely to hit the pockets of accountants who will no longer be involved in preparing accounts and tax computations.
- Many of those who find themselves failing the CEST tool test may question why it is at odds with the specific IR35 advice they had received from their adviser. It is very likely that HMRC will be on the lookout for those who, in their tax computations, suggested their engagement(s) were outside IR35 and now find their income being taxed by their client. This is likely to lead to those cases being considered by HMRC for investigation, and there could be significant tax liabilities attached to those who have been wrongly treated under IR35 historically.
- Agencies and advisers who have set up schemes to avoid the consequences of IR35 may find themselves being considered by HMRC for action under the new Criminal Finance Bill. It is important to note that several agencies that consider themselves compliant have urged HMRC to use these powers, due to the impact on their businesses as they are losing workers to agencies they believe to be breaking the rules.
- An increased amount of HMRC activity concerning the undertaking of IR35 compliance checks could result in the opportunity for more work in representing those who may themselves be the subject of challenge. In fact, over the last 12 months, there has been a significant increase in HMRC activity, and a number of significant cases have been listed for a hearing before the First-tier Tribunal. It is possible that this will provide a boost for those working within the profession in assisting during these tax investigations.
What is the way forward?
There is a lot to be learned from IR35 and how it was introduced. The whole process has been far from satisfactory, the legislation is complicated, and the lack of compliance checking since its introduction has been responsible for many of the misunderstandings that have occurred – particularly within agencies and the accountancy profession.
It is clear that the Public Accounts Committee will not allow HMRC to adopt a softer approach going forward. Therefore the request by some for the legislation to be binned is very unlikely. In order for HMRC to police compliance within IR35, there must be some way of identifying those who may be caught by the rules.
Yet ultimately, while the rules introduced in April 2017 are far from popular, it has been necessary for some implementation of controls to occur.
Alastair Kendrick is a leading employment tax specialist with considerable experience on status and IR35.
AJ Chambers is the UK’s leading public practice employment consultancy.