There is bad news on the way for some of the UK’s army of self-employed workers, with the imminent changes to the rules governing tax and national insurance for those working for private sector clients.
The proposed reforms could lead to higher costs and lower income for many workers but, rather worryingly, most freelancers don’t seem to be aware of what is about to happen. A recent survey by accounting software company FreeAgent of 2,000 self-employed people in the UK found that most didn’t know about the planned changes to the rules for off-payroll working – usually known as IR35 and first introduced in 2000 by the last Labour government. Indeed, 57% said they didn’t even know what IR35 is.
These rules are designed to clamp down on tax avoidance by contractors working for a client through a personal service company, who would be treated as an employee in other circumstances. The government’s aim is for these people to start paying roughly the same tax and National Insurance contributions as a regular employee, even though they miss out on many of the benefits of an employment contract, such as pension contributions, sick pay and holiday pay. For the moment, it is up to the contractor themselves to make the decision about their status. However, once the changes come in, the onus will switch to the client to determine whether someone should be taxed at the source.
Similar changes were brought in for the public sector in 2017 to tackle what government ministers have called “widespread non-compliance” with the tax system among workers. In the first 12 months after that, the government brought in an estimated £550 million more in tax receipts, which gives a hint as to why it is so keen to now extend the rules to the private sector.
On 7 January, the government announced it would conduct a review “to address any concerns from businesses and affected individuals about how they will be implemented.” This is due to conclude by mid-February and the government has not shifted from its previous plan to bring the new IR35 rules into force as 6 April. The speedy nature of it has left industry figures dismissing it as little more than window-dressing.
Andy Chamberlain, deputy director of policy at the Association of Independent Professionals and the Self-Employed (IPSA), described it as “disappointingly hasty and inadequate” and predicted it will have little impact. “Not only has the government not said it will pause the changes, it has also allocated far too little time for a full review and said nothing about selecting an independent chair,” he said.
Given the widespread lack of knowledge about what is about to unfold, at the very least the government should consider launching a major communication campaign before implementation day. There have been some efforts to alert workers and clients about what is to happen, but Jim Wright, partner in employment and HR at Leeds law firm Shulmans LLP, says “The complexity of the topic means that different audiences need to be addressed appropriately.”
Others agree there needs to be a concerted effort to communicate with a wide audience about what is about to happen. “IR35 should be treated like the annual tax return deadline or Making Tax Digital,” says Andy Vessey, head of tax at Larsen Howie, an insurance firm that focuses on clients in the contractor, freelancer and consultant marketplace. “Radio ads, TV ads, posters, billboards and print advertising should be undertaken to make sure everyone that could be affected is aware of the legislation.”
One difficulty is knowing just how many people will be caught up in the new rules. As the proposals stand, anyone carrying out work for smaller employers will be unaffected. The changes will only apply to people working for private sector firms which meet at least two of the following three conditions: a turnover of more than £10.2 million, a balance sheet worth more than £5.1 million or more than 50 employees.
Freelance workers may have to spend some time looking through the accounts filed by their clients at Companies House to figure out if they fall into those categories. But that research will not tell them anything about how their clients will respond to the new rules. When the changes were brought in for the public sector, many larger employers took the path of least resistance and opted to treat their suppliers as employees for tax purposes; many private sector businesses are expected to take a similar approach.
“Public sector clients tended to take a more cautious approach, and were more likely to deem a contract as being caught by IR35,” says Clive Dobbin, head of employment at Paris Smith Solicitors. “I expect that private sector clients, particularly SMEs, will take a similar approach. Clients will often not want to take the risk of facing a challenge from HMRC.”
In light of such predictions, there are some useful steps that freelancers can take. “The most important thing for the self-employed to do is get a professional, unbiased contract and working practices review before April 2020,” says Vessey. “It’s your working practices that HMRC will scrutinise should you undergo an enquiry. Make sure you fully understand your position and take heed of any feedback from your IR35 consultant.”
It is possible to try and figure out these things without professional advice, but it is complicated and, according to some critics, rather arbitrary. The website set up by the HMRC to determine whether a contract falls within the IR35 rules – the Check Employment Status for Tax (CEST) tool – is said to be inaccurate and the government has lost court cases accordingly. Vessey, who has defended more than 500 employment status cases against the HMRC and won the majority of them, says the HMRC’s win-rate in cases involving IR35 case is only “around 17% since 2011” and he says “don’t just rely on HMRC’s CEST tool for an accurate result.”
The cost for those who are caught by the new rules could be considerable, particularly those working via limited companies who rely on their earnings coming via dividends, with their actual wages being below the tax and National Insurance thresholds. Some may find that they are not able to do much about the changes, though. Many large companies which use myriad contractors have neither the time nor the inclination to sift through large numbers of individual assessments, so they may decide to take a blanket approach.
“We are already seeing large corporations saying they simply will not do the number of individual assessments needed to cover their contractor workforce and making a blanket decision that their contractors must work through umbrella companies with all the cost and PAYE implications involved,” says Annabel Kaye, managing director of contract specialists Koffee Klatch.
These umbrella company essentially place an extra link in the chain between a contractor and the company they are working for, but they can be far more expensive to run than a limited company.
Beyond that, some clients may opt to outsource more work to overseas suppliers, thereby avoiding the problem entirely. “Non-UK based freelancers are not subject to this, so this is a profoundly uncompetitive move for the government to be making as it makes it more economical to source more work overseas,” adds Kaye.
Perhaps the most sensible course of action is for freelancers to approach their clients before the changes come in, in order to discuss their situation and prevent any unnecessary implementation of the new rules.
“Knowledge is power in these circumstances. A freelancer who is genuinely self-employed and who has ensured that his working and contracting practises are robust enough to avoid a determination of employment should be able to avoid the application of the rules,” says Cathy Bryant, a partner at law firm Blake Morgan.
But those caught by the new rules may still be able to make some changes to avoid that fate. “The client may be willing to engage in negotiations to restructure the working and contracting practises and there may be alternative structures through which the freelancers can operate in order to mitigate the rules,” adds Bryant.
Others support taking such an approach. Wright says it can even lead to improved relations with a client. “Some of the freelancers that we work with have found that pro-actively approaching their customers, alerting them to the changes and demonstrating why their business structure does not cause an issue, enhances their pre-existing relationships,” he says. “Some customers have also used this as an opportunity to have conversations with freelancers about becoming an employee on a part-time basis, which may suit some individuals.”
Nonetheless, there is clearly plenty of room here for disagreement between freelancers and their clients about how best to structure their relationship. And the balance of power is often likely to be in favour of the client who could decide that the simplest option is to put a freelancer on the payroll.
“Not only would the freelancer then be faced with having to dispute their client’s determination to place them on the payroll, but the freelancer is also faced with receiving less money in the way of fees for the work carried out,” says Bryant. “It’s a double-edged sword. Freelancers face a collision course with their clients and face a potential reduction in income.”
Given all this, it is unsurprising how unenthusiastic freelancers are about the changes. According to the FreeAgent survey, among those that were aware of what is proposed 30% said they would like to see IR35 legislation for the private sector dropped and only 12.9% wanted it retained. Most will know that, at best, the changes to the tax rules will make no difference to their working lives but, at worst, it could lead to a substantial drop in earnings.