IR35 is coming to the private sector.

If you manage or own a business, you may well have noticed that your use of flexible workers, contractors or freelancers has grown substantially over the course of the last few years. You aren’t alone with this trend.

According to figures from the Office of National Statistics, unemployment in the UK reached its lowest rate for more than forty years earlier this year, thanks in no small part to the booming gig economy, self-employment and freelance workers. Consultancy UK calculates that around 15% of the labour force is now self-employed and around 41% of those workers are freelance.

As an employer, this means that you’re now likely to have a much smaller pool of permanent staff on your pay roll as more and more of us shun traditional employment and instead opt to take back control by setting up as contractors, freelancers or self-employed consultants.

Where you may have had a large in-house workforce 20 or even 10 years ago, today, you may well rely more and more on third party contractors, temporary staff or adhoc freelancers. Figures from FT Advisor suggests around 900,000 workers are currently employed as limited company contractors.

This scenario gives you much greater flexibility and agility as a business leader. You can tap into a bigger pool of talent and skills, access them when needed and not be stuck with a big salary bill when you don’t. As well as the monthly payroll shrinking, your employer National Insurance (NI) contributions will be smaller and you won’t be on the hook for benefits such as paid annual leave or sick pay.

For medium and large businesses, the use of contractors can provide a quick boost of much needed skills, supplement the existing workforce for larger jobs and bring in specialist expertise when needed without the lengthy, expensive recruitment process.

If this all sounds too good to be true, it is, but, while it’s a dream scenario for you, the government misses out on a huge amount of tax and NI contributions, so the gig might soon be up.

In the Autumn Budget, presented at the end of October, Chancellor Philip Hammond confirmed what many in the private sector had dreaded; IR35 would be rolled out to the private sector after its public sector implementation last year.

Confirmation that IR35 is coming to the private sector has been met with consternation by many, who point to a less-than-smooth deployment in the public sector. The launch has been delayed until 2020 following months of consultations and concern from prominent industry leaders and is currently limited to medium and large businesses.

What is IR35?

IR35 is a piece of tax legislation which governs intermediaries. It is intended to stop the use of workers or contractors through a third party (such as a limited company) if that worker would otherwise normally be classed as an employee. When supplying services through an intermediary, a large amount of tax and NI payments are avoided. HMRC considers some of these workers to be ‘disguised employees’ – contractors in name only.

IR35 is an attempt to clamp down on that tax avoidance by reclassifying certain contractors and workers as employed; meaning they will need to pay tax and make NI contributions just like a traditional employee. For the contractor, this obviously means a notable drop in income.

IR35 has been around since Gordon Brown’s chancellor days to stop workers forming a limited company and then working through that company in order to avoid paying tax.

What has happened in the public sector?

Last year, IR35 was rolled out in the public sector in a move that has been plagued with criticism and problems. With IR35, the public sector engager is responsible for determining the status of the worker. The engager is also the entity held liable if HMRC determines the contractor status has been incorrectly applied.

Critics say that the roll out in the public sector has been chaotic, that not enough time has been allowed for an accurate determination of employment status to be made and, because the engager is both responsible and liable, many contractors have been classed as workers to alleviate risk, even if this isn’t the case.

Contractors classed as workers under IR35 must pay more tax and NI but don’t receive any employment rights or benefits. Writing in the FT Advisor, journalist Seb Maley sums this up by noting, “…thousands of contractors have been placed inside IR35 without a fair review of their working arrangement. 

“These organisations were not helped by the government’s haphazard implementation of reform and were perhaps motivated to protect their own liability – which can run to hundreds of thousands of pounds.

“A number of public sector bodies made risk-averse IR35 decisions, which resulted in contractors being taxed like employees, yet without receiving any of the rights that come with employment – a lose-lose as far as a contractor is concerned.”

So, can we expect this when IR35 comes to the private sector in 2020?

IR35 and the private sector – looking ahead

While IR35 private sector roll out has been delayed for a year or so, and limited to medium and large businesses, the implementation looks much the same. As of 2020, contractors will no longer be able to determine their status themselves. The medium or large business contracting the worker will be responsible for setting the IR35 status.

The Treasury believes that it’s losing out on around £1.3 billion each year due to disguised employment. By placing the burden of classification on medium and large organisations, HMRC hopes to claw back this money but, this will place an extra burden on the business and could result in contractors being unfairly classified as we have seen happen in the public sector, leading to more tax and no resultant uptick in employment rights.

For larger firms, preparation needs to begin now. Deloitte employment tax partner Mark Groom says it is important not to underestimate how much work is required to be ready for IR35 in 2020. He says private sector businesses must consider how they will make classification decisions, how disputed status claims will be handled and make all necessary changes to contracts, internal systems and even commercial negotiations for new projects before April 2020.

There is also the question of how to balance HMRC’s need to recoup more tax with the importance of not stifling the booming freelance and self-employment movement. Some critics of the public sector roll out have cited a fall in contractor numbers and skills gaps for projects as a result of the legislation.

With the IR35 private sector roll out still 16 months away, there is still plenty of time for things to change and public sector lessons to be learned and applied to the private sector launch.

If you’re a contractor or a medium to large business and need help preparing for the onset of IR35, get in touch with us today.