The proposed false self-employment test (proving an absence of control) and IR35 could both apply to contractors following the next Budget and the Finance Bill 2014. Or if changes are made to the false self-employment legislation during the consultation phase, the test could disappear entirely. And so could IR35. To shamelessly mangle some great Clash lyrics:
“Will they stay or will they go?”
If the proposed false self-employment legislation is enacted as it is currently written, we can reasonably safely assume that by default all contractors on agency contracts will have income tax and National Insurance Contributions (NICs) deducted at source via Pay As You Earn (PAYE) by default, because agencies will not be prepared to take on the tax risk associated with the newly proposed legislation.
Bearing in mind that, at any one time typically over 90% of all IT contracts in the UK are awarded via agencies, the impact on both the contracting sector and the economy could be devastating. A vast number of contractors could find themselves handing over up to 25% more of their income to the tax man, and the vital flexible workforce could shrink as a result.
When IR35 was first introduced in April 2000, recruiters needed to attract talent, which at the time was in short supply, so it was in their interest to help contractors stay outside of IR35. With the false self-employment test, there will be no incentive for agencies and clients to lift a finger to help contractors. This is because under the false self-employment legislation the burden of proving an absence of control over the contractor by the client lies with the agency, as does the burden for paying the extra tax should the contractor be found to be caught.
As with the Managed Services Companies Legislation and Debt Transfer Rules, agencies are very unlikely to entertain that kind of risk. This is why PAYE would become the default position regardless of whether a contractor is operating via a limited company or umbrella company.
However, don't panic just yet, because the false self-employment legislation is still going through a consultation phase before it possibly becomes law. There are three possible outcomes:
- no change, and the proposed legislation is enacted as it;
- the proposed legislation is amended;
- the proposals are dropped.
Now, of course our preference is for the third option. Unfortunately, though, given their track record of not listening either to experts in a given field or businesses trying to operate in the market being impacted, the government, HMRC and the Treasury are unlikely to drop the proposals entirely.
That leaves us with options one and three. Let’s take a gigantic leap of faith and assume that the government and civil servants do listen and understand that enacting the legislation as written is likely to derail the economic recovery.
OK, that’s a pretty big assumption. But even Gordon Brown’s government and ministries backed down over the family business tax (income shifing proposals) and construction industry proposals when told by pretty much every professional organisation and most of business that they were unworkable and damaging. So let’s assume they do.
That leaves us with the prospect of the legislation going through but with amendments. That in itself presents a huge range of nightmare options, but it also might end up working in favour of contractors.
Let’s say, for example, that the proposed legislation is changed so that the burden of proving an absence of control, and thus paying the extra tax, lies with the contractor, as with IR35. Not an unimaginable scenario - let's face it, agencies are skilled at finding and placing candidates, don't get involved with the day to day work of the candidates, and also aren't employment status lawyers who can make judgements over complex legal aspects such as whether a worker is controlled. This scenario of shifting the onus to the contractor, given everything we have learned about IR35, may not be as daunting as it might first appear.
In fact under this scenario, IR35 could become obsolete, even though the regular tests of employment, IR35 and false self-employment could all run in parallel. And agencies would once again have a vested interest in keeping their contractors happy, as when IR35 was first introduced, because agencies would no longer bear the risk of unpaid tax.
You could almost imagine IR35 being abolished in favour of the self-employment test. Well, almost. Perhaps The Clash’s prediction for the self-employment test is more realistic:
If it goes there will be trouble. And if it stays it will be double.