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Controversial reforms to tax rules affecting freelance employment are leading to an increase in the number of individuals choosing to leave work, data has revealed, sparking calls for a review of the policy.
A survey of more than 1,300 contractors, published on Friday, found that one in 10 contractors gave recent changes to off-payroll working rules, known as IR35, as the reason they are not currently working.
Since April 2021, the decision as to whether self-employed people in the private sector should be considered self-employed for tax purposes – known as “outside IR35” – or employees has moved from individuals to their employees. Similar rules have been in place in the public sector since 2017. The switch places ultimate responsibility for paying the correct tax on tenants.
The survey, conducted by the Association of Independent Professionals and the Self-Employed (IPSE) in February, showed that 79 per cent of respondents were working, and 21 per cent were unemployed.
Half of the unemployed said this was due to the impact of IR35 reforms in the private sector. Other reasons cited by those not working include “government policy towards the self-employed”, cited by 22 per cent of respondents and “lack of motivation to return to the labor market”, a factor raised by 18 per cent of contractors.
Overall, 55 per cent of contractors said they had been turned down for work in the last 12 months because it was deemed “inside IR35” by the tenant. Meanwhile, 24 percent of those surveyed said they intend to seek contracts abroad this year to escape the rules – which do not apply to foreign employees.
Andy Chamberlain, policy director at IPSE, said: “Three years on, off-payroll rules are still keeping thousands of highly skilled individuals out of work. It is astonishing that the Chancellor is happy for this to continue at a time when economic inactivity is one of his biggest concerns.
He called on the government to launch a review of tax rules, which he said should consider its impact on the employment of contractors.
MPs on the Public Accounts Committee also recently called for further evaluation of the reforms, saying they were concerned “that HMRC’s approach to tackling IR35 deters legitimate economic activity”.
The committee recommended that HMRC assess the impact of its approach to administering IR35 reforms on the use of contractors across sectors.
In a report published in late February, MPs added: “We are concerned that a lack of confidence in how the rules are applied, coupled with HMRC’s tough approach when taxpayers make mistakes, is preventing businesses from using contractors.”
Since the complex reforms for off-payroll workers were first proposed, they have sparked controversy and led to failed attempts by business and independent lobbyists to block the rule changes from taking effect.
Recruitment firms have moved between 150,000 and 200,000 workers from contractor status onto their payrolls since the IR35 reforms, according to HMRC data reported by the PAC.
A government spokesman said: “These reforms are essential to ensure those who work like employees pay tax like employees, and have already raised an additional £1.8 billion through improved compliance.”
“There is no evidence that they have had any significant impact on overall labor demand and supply, with those affected making up less than 1 percent of the total workforce.”
Amending the rules brings relief to companies
Companies that would have been subject to double taxation due to a loophole in the legislation regarding off-payroll work rules can breathe a sigh of relief from April 6, when the legal solution to the problem comes into force.
Since 2021 in the private sector and 2017 in the public sector, tenants have been responsible for assessing whether the contractors they use are employees or self-employed for tax purposes. Companies that incorrectly classify individuals as self-employed who should have been considered employees will be liable for any income tax and National Insurance due.
However, it emerged in 2022 that the government had not put any provision into law to offset any tax that misclassified contractors had already paid – such as corporation tax and profits tax – from the companies' liabilities.
From April 6, the government will offer compensation that takes into account the tax already paid by the contractor, if the tenant is found to have misclassified them.
Seb Malley, CEO of tax consultancy Qodos, said the reform would reduce the financial risks of companies that hire contractors.
“This legislative change should give businesses the confidence they need to engage genuine contractors in the most cost-effective and flexible way,” he said.
Dave Chaplin, chief executive of advisers IR35 Shield, said if the government had not made the change, the issue would have led to legal action by companies.
“It's double taxation in that the same money is being taxed twice, but the corporations could have been taxed four times, so that wasn't defensible,” he said.
For example, Maley calculated that a company that misclassified 500 contractors – who each received £60,000 for one year – would face a tax bill of £9.08m, without compensation. With compensation, the company's liability will fall to £1.5 million – assuming each contractor has already paid corporation tax and profits tax of £15,176.98.
