HMRC tool for measuring IR35 status is so great, employers are ditching it in their droves

Survey shows majority of UK firms have lost at least half of their contractors over tax reform

The number of independent UK contractors assessed with the government's controversial CEST tool has fallen, according to a survey published today.

The survey of 3,750 contractors, conducted by tax advisors IR35 Shield in November 2021, showed 49 per cent got their IR35 assessment using tax authority HMRC's recommended tool in that same month. In April, the corresponding figure was 56 per cent.

The new IR35 regime, introduced in April last year following a year's postponement, forces medium and large businesses in the UK to set the tax status of their contractors and freelancers.

The IR35 Impact Survey showed that 65 per cent of respondents said that companies had lost at least half of their contractors. The number of contractors receiving assessments from some kind of external tool rose from 39 per cent to 44 per cent between April and November 2021.

What is IR35?

The IR35 reform was unveiled in 1999. The latest regulation change in April 2021 forced medium and large businesses to set the tax status of their contractors and freelancers. Previously this was set by the contractors themselves.

Contractors found to be within the scope of the legislation – i.e. inside IR35 – will have to pay more tax than they might expect.

The reforms are part of the government's crackdown on so-called disguised employment, where workers behave as employees but avoid paying regular income tax and national income contributions by billing for their services through personal service companies (PSCs), which are taxed at lower corporate rates.

The measure came into effect in the public sector in 2017. The British government hoped the reforms would recoup £440m by bringing 20,000 contractors in line.

HMRC reckons that only one in 10 contractors in the private sector who should be paying tax under the current rules are doing so correctly. It estimates the reforms will recoup £1.2bn a year by 2023.

The study found 60 per cent would seek an alternative assessment to CEST, which stands for Check Employment Status for Tax. Only 4 per cent trusted HMRC to stand by the tool's results, with just 5 per cent saying they thought CEST was accurate in the survey. They may have good cause to doubt CEST as a tool for measuring IR35 status.

In December, it was revealed CEST contributed to wrong calls on the tax status of freelance workers in central government, costing over £120m across two Whitehall departments. According to their financial reports, the Ministry of Justice (MoJ) and the Department for Environment, Food and Rural Affairs (Defra) are facing combined additional tax bills of at least £121m due to incorrectly determining the status of their contractors despite following HMRC's "accompanying guidance" and using the CEST tool. The MoJ owes £72.1m and Defra owes £48m.

Dave Chaplin, CEO of IR35 Shield, said: "The number of firms using HMRC's Check Employment Status for Tax (CEST) tool is also on the decline, as trust in its accuracy is virtually non-existent. The supposed protection it provides. The drop in use is perhaps due to the multiple government bodies who used CEST and followed HMRC's guidance but who are now facing combined tax bills and fines of some £250 million."

However, there were signs of optimism in how contractors are adapting to IR35. "Despite the IR35 earthquake, we are seeing green shoots of recovery emerging, both for contractors and the firms that hire them. The levels of blanket bans are decreasing and the use of specialised assessment firms is increasing," Chaplin said.

In June last year, the CEST tool was found to produce inconclusive responses for one in five of the million-plus times it was called upon in 16 months.

Statistics from HMRC showed CEST was deployed 1,018,250 times between November 2019 and May 2021. Almost half of the delivered results showed the freelancers to be operating inside IR35, a little over 300,000 were outside, and in 210,100 cases it was inconclusive. ®