New IR35 rules are making tax fairer for everyone

Contractors were wrongly classifying themselves as outside the tax regulations in 90 per cent of cases

Too many contractors who should be abiding by the employment intermediary rules (IR35) have been paying less tax than they owe, denying the country hundreds of millions of pounds for schools, hospitals and other public services.

Many have been working alongside public sector employees for years, working on the same projects, but have been paid differently because they have been providing their services through their own limited company and applying the employment intermediary rules incorrectly.

The rules are designed to ensure that when a contractor who is engaged through their own limited company has a relationship with the engager that mirrors an employer-employee relationship, the same tax should be paid as if Pay As You Earn applied. But this has rarely happened. HMRC estimates that contractors were wrongly classifying themselves as outside the rules in around 90 per cent of cases. Mostly this was because contractors, rather than employers or agencies, were deciding whether they should be subject to the intermediary rules.

That is why, in April, new rules shifted responsibility for making the decision from contractors to the public body or agency employing them. No longer do contractors working in the public sector decide whether the rules apply to them. Since then, we’ve seen more jobs being classified as within the intermediary rules, ensuring that many more people are complying with the law and, importantly, paying the right amount of tax.

We’ve been accused of changing the rules: that is simply not true. The underlying rules about whether or not someone is employed or self-employed, and whether the intermediary rules apply, have not changed. The reforms simply moved responsibility for deciding whether a contractor should be working within the rules from contractors to the employer.

There has been a great deal of misinformation in some sections of the media about the changes to the employment intermediary rules, including suggestions that there would be a mass exodus of contractors from the public sector. This has not happened. HMRC has been monitoring this. Contractors come and go, and the market is naturally fluid, but it would be wrong to suggest that the public sector has significant recruitment gaps because of this reform.

Another misconception is that public bodies are now ruling every job inside the intermediary rules as a matter of course. This is not true. Public bodies have a decision to make, and HMRC is helping them with this. We have provided an online tool called the check employment status for tax (CEST) service. It asks the kind of questions that a tax inspector might ask a contractor when determining their tax status. We worked closely with public bodies and contractors to design it and tested it extensively, and our lawyers matched its responses against case law to ensure responses were in line with previous tribunal decisions.

In just four months, the CEST service has been used more than 450,000 times and most public sector bodies are using it routinely.

CEST provides a conclusive result in 85 per cent of cases, and HMRC has agreed to stand by the advice it provides, as long as it is based on the correct information and our guidance has been followed. CEST is also fast, providing a response within minutes; during its design, customers highlighted speed as a primary concern.

In the cases where CEST cannot provide a result, which is usually because they involve particularly complex situations, we have more detailed guidance and specialist advisers on hand to help public bodies and agencies make the correct decision.

Importantly for employers, CEST is the only tool that HMRC recognises. Alternative products being marketed may not be helpful. A wrong result will lead to extra administration for employers and contractors could find themselves facing penalties and interest, on top of the correct tax that they should have been paying. We strongly advise employers and agencies to use CEST.

Contractors and others who stand to lose out financially have spread a great deal of misinformation about the consequences of the reform. While it will be some time before we can fully evaluate its impact, we believe it is driving up compliance with the rules, contributing to a fairer employment marketplace for everyone.

Jim Harra is HMRC’s tax assurance commissioner and director general for customer strategy and tax design