Good news for UK tech contractors as govt repeals IR35 tax rules

Controversial reforms ditched but expert notes HMRC thinks 90% don't comply

The UK government has announced plans to repeal the controversial reform to off-payroll taxation, a set of rules which applied to IT contractors who move between companies.

Speaking during his "mini-budget" in the House of Commons today, chancellor of the Exchequer Kwasi Kwarteng said reforms to the off-payroll working had added unnecessary complexity and cost for many businesses.

"As promised by the prime minister, we will repeal the 2017 and 2021 reforms. We will continue to keep compliance closely under review," Kwarteng told MPs.

IT contractors may be relieved the reforms to the tax rules (in both the private and public sector) are set to be repealed but would be forgiven for being bewildered at the U-turn and the needless paperwork accommodating the changes have introduced.

New IR35 rules were introduced for businesses in April 2022 following a year's delay caused by the COVID-19 pandemic. They put the onus on determining tax status on employers, some of which were unwilling to accept the risk and put blanket bans on the use of contractors. The rules were introduced in the public sector in 2017.

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 – forced medium and large businesses in the UK 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 are able to slash their tax bills by billing for their services through Personal Service 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 £440 million (c $486 million) 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 £1.2 billion (c $1.33 billion) a year by 2023. Both public and private sector reforms are now set to be repealed.

Commenting on the move to repeal the legislation, Dave Chaplin, CEO of tax compliance firm IR35 Shield, said contractors would be celebrating the government announcement.

"These onerous reforms were never going to work and were flawed from the start. The new version of IR35 has simply served to pour glue on the economy and prevent growth. The Chancellor has done the right thing and removed an unnecessary burden for firms of trying to solve a complex riddle every time they hire a worker."

But Penny Simmons, legal director at law firm Pinsent Masons said the government's decision does not necessarily mean the end of the IR35 story.

"The rules will still exist – it's just that contractors will once again be responsible for compliance and payment of tax. Businesses will remain exposed to tax risks if they pay contractors off-payroll when they know that the contractors should be taxed as employees by virtue of other tax rules and the corporate criminal tax offences."

She pointed out that the chancellor has also said the government would keep compliance under review.

"The rules were changed because HMRC thought 90 percent of contractors weren't applying the rules correctly – so if HMRC thinks this is still the case, we may well see further changes, albeit in a different form," she said.

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. 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 penalized. ®

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