How important are tech and other contractors to UK? PM candidate promises tax review if elected

Liz Truss to go over IR35 off payroll tax as ruling party voters gear up to pick their leader

The leading candidate to replace Boris Johnson as the UK's prime minister has said she would review changes to the IR35 tax rules so often criticized by IT contractors.

Liz Truss, who is currently foreign secretary and down to the last two in the race to be the ruling Conservative Party's leader, gave an interview over the weekend in which she said she would order a review into the IR35 tax rules on becoming prime minister.

The IR35 reforms – which put the onus on the employer, rather than the contractor, for determining their employment status – were introduced in the public sector in 2017. Following a year's delay, they were introduced to large and medium-sized private-sector businesses in April 2021.

Speaking to The Sun newspaper, Truss said: "The changes that have been made to IR35 are all about trying to treat the self-employed the same as big business.

"But the fact is, if you're self-employed, you don't get the same benefits as being in a big company. You don't get paid holidays, you didn't get those benefits. So the tax system should reflect that more," said Truss, echoing the criticism of the reforms during and after their introduction.

Campaigners welcomed Truss's comments. Seb Maley, CEO of IR35 insurance specialist Qdos, said: "Promising a review into IR35 is a step in the right direction. It's widely accepted that the IR35 legislation and the way HMRC enforces it is fundamentally flawed. Liz Truss must make a review a priority if she becomes Prime Minister. But this mustn't be lip service or a tactic to win the votes of contractors for whom IR35 remains a massive issue.

"It's impossible to overlook the fact that we've been here before. IR35 has been reviewed multiple times in recent years, yet still the government have taken very little or no action whatsoever. So you'd forgive contractors and businesses impacted by the rules for taking Liz Truss's pledge with a pinch of salt."

What is IR35?

IR35 is a reform unveiled in 1999 by the UK tax authorities. The latest regulation change – which came into force in April 2021 – makes medium and large businesses in the UK 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 services companies (PSCs), which are taxed at lower corporate rates.

The measures first came into effect in the UK 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.

Dave Chaplin, CEO of tax compliance firm IR35 Shield, said: "While it is good to hear that Liz Truss intends to focus on IR35 as part of her vow to help small businesses should she become our next Prime Minister, my message to her is loud and clear: we don't need another review, we need action. The so-called reforms are a flawed botch and have simply served to strangle contractors and those businesses which hire them. IR35 is an iron shackle, impeding flexible workers who can help deliver growth just when the UK economy and UK plc need them. The time to act is now.

"Over the last 20 years or more, there has been considerable misjudged and damaging legislation heaped on the contracting sector and the sensible option would be to go back to the drawing board and design a fair tax system that works fairly for everybody – let's fix it or ditch it."

One of the staggering consequences of the new IR35 rules is that the UK government itself has struggled to comply with them.

Difficulties meeting the IR35 rules, which apply to many IT contractors, in central government reflect poor implementation by Her Majesty's Revenue & Customs (HMRC) and other government bodies, the Public Accounts Committee (PAC) said in May.

"Central government is spending hundreds of millions of pounds to cover tax owed for individuals wrongly assessed as self-employed. Government departments and agencies owed, or expected to owe, HMRC £263 million (c $310 million) in 2020–21 due to incorrect administration of the rules," the report said.

Meanwhile, IT contractors who have faced blanket bans on employment via their PSCs could face years trying to challenge the decision, according to officials from the UK's tax collector.

Speaking to Members of Parliament in February, HMRC compliance director Nicole Newbury acknowledged that businesses implementing blanket bans on contracting PSCs could be found not to have complied with freelancer tax reforms, dubbed IR35, but challenging decisions could be a lengthy process.

UK IT contractors have been given no guidance on how to claw back tax erroneously taken by employers under IR35 rules, according to the National Audit Office.

Over in the US, there are two main types of contractors: those who fall under 1099 (Form 1099-Misc), and those who fall under Form W-2, with the latter being similar to IR35 in the UK. However, there are major differences. The IRS says: "Businesses must weigh [many] factors when determining whether a worker is an employee or independent contractor. Some factors may indicate that the worker is an employee, while other factors indicate that the worker is an independent contractor."

According to contractor and freelancer news site, contractor.com, the main difference is "in the UK, the contractor is financially punished if found to be a disguised employee, whereas in the USA, it's the client that is penalised. ®

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