As the Chancellor announced in his budget statement recently, in its battle against "disguised employment", or IR35, HMRC has issued a consultation paper about the viability of making "employers" (contracting clients) responsible for employees’ (that is, employees disguised as contractors’) tax bills. What could that mean for genuine limited-company contractors? IR35 was brought in to weed out "disguised employees" who effectively evade tax by paying themselves through personal service companies. More than half a million British workers take their income through a limited company sometimes known as a "personal service company". However, suspicions prevail that a significant proportion of limited company contractors are not technically contractors at all, the sort of non-compliance that HMRC reckons cost the Exchequer £430 million in tax and NICs receipts for 2014/2015.
How contractors save on tax
While most limited company contractors meet HMRC’s definition of a genuine contractor, the sticking point seems to be the fear of a(nother) public outcry that limited company contractors are "getting away with it". As a limited company, contractors, of course, only pay corporation tax at 20 per cent and take a modest wage plus dividends from the company, saving income tax and NI contributions.
Having now begun consultation on the future of IR35, the government wants to look at how to control and monitor breach of it. The consultation paper gives the example of a law firm that hires two lawyers in 2015?16, who do the same job and work on the same case, and receive gross payments of £70,000 p.a. One company deducts income tax and employee NI and pays employer NI on top. The total tax and NI paid by this individual is £30,612 (£22,071 by the taxpayer and £8,541 by the company). The other example shows how working through a PSC is a more tax advantageous remuneration strategy, where combining a low salary and dividends the total tax and NI liability is only £16,900 for the individual and nothing for the company.
What could that mean for genuine limited company contractors?
The current consultation states: "Those who engage a worker through a personal services company would need to consider whether or not IR35 applies, and, if so, deduct the correct amounts of income tax and NICs as they would for direct employees."
This means that contractors, working through personal service companies, whom it is suspected set up limited or "personal service" companies in order to pay less tax, will have to justify their tax arrangements to their clients—or "employers". This significant shift of approach ? putting the burden of assessment for IR35 on employers and not the worker ? could alter things for limited company contractors considerably. You never know how employers are going to respond, but the shift could give rise to a tough regime for contractors in the future.
HMRC’s hope is that tightening the net like this will catch contractors who act more like employees, and therefore are in breach of IR35.
What is DNS doing to protect you against IR35?
DNS, of course, will continue to work closely with clients to make sure that no one falls foul of future IR35 legislation. It is too early to say what the consultation will produce, but we will update you immediately we have any further HMRC guidance. Watch this space!
Meanwhile, it is critical you know where you stand with IR35: visit the DNS website to read how IR35 might affect you, and how to act like a contractor and not an employee. Take advantage of our contract-checking service and take out Tax Investigation Insurance, a discount applies for all DNS clients. As always, if you have any concerns about this or any other issue, feel free to contact your account manager.