What would no IR35 off-payroll rules look like, as 18 of chancellor Rachel Reeves’ Labour colleagues have signalled they may want?
Before Labour stomped to victory at general election 2024 on July4th-5th, Reform UK pledged to “abolish” the IR35 rules.
Even though Nigel Farage’s party provided no alternative to this much-disliked framework, there’s more than a sense of regret in the air from some contractors that only four MPs with the goal of axing IR35 have made it to parliament on behalf of Reform UK.
But would abolishing the IR35 rules -- not that the new Labour government has gone anywhere near the issue despite its somewhat related plan for Single Worker Status -- really be the best option, anyway? To summarise my answer in four, intentionally capitalised words, IT WOULD BE TURMOIL, writes Alex Seal, tax consultant at Markel Tax.
Origin story: Why was IR35 introduced?
One of the main reasons IR35 was introduced in 2000 was to prevent employees from leaving their employment to then return as a contractor via a limited company with no material differences in the actual working arrangements between the parties. This became known as the ‘Friday-to-Monday’ scenario.
The effect of this was that employers reduced their cost of Employer’s NIC, and the need to afford their employees employment protections and benefits. The employees -- the contractors by the time Monday came around, were also able to distribute their income by means of dividend payments and taking advantage of the dividend allowance, dividend tax and allowances. Back then, dividends were treated by HMRC much more generously than they are currently. In the main, both supply chain parties were happy with this arrangement.
Unfortunately this wasn’t the case for HMRC and the Treasury, which both saw a big reduction in tax and NIC receipts. At the time, the-then Labour government decided to legislate to tackle what they perceived as tax avoidance and therefore introduced the ‘original’ IR35 legislation as we know it, under Chapter 8 Part 2 ITEPA 2003. The rest is history.
No IR35 = a reopening of the limited company floodgates
Therefore, in 2024, would any government want to return to those times, given the current economic climate and with HMRC likely to warn against re-opening the limited company floodgates? It would certainly be a bold move, to say the least.
The reality, however, would be a hard pill to swallow unless a fundamental shift in self-employed status were also on the cards, as it would potentially see that self-employed status circumvented by incorporation -- which leads us back to IR35.
However, it should be acknowledged that in as part of its pre-election promises which didn’t make it into its official manifesto for general election 2024, Labour did suggest that such a shift in self-employed status could occur, due to its Single Worker Status plan.
Better the devil you know
The contractor sector is no doubt now waiting on every word from new chancellor Rachel Reeves, not least because another very successful Labour politician at general election 2024, Alex Sobel MP, was a signatory of a EDM in 2019 to review IR35 and the “off-payroll tax” rollout to the private sector.
It is even more of an attention-grabbing statement to want to go further – outright abolish IR35 (à la Reform UK), but I must warn contractors -- some kind of alternative would need to be introduced to shore up the potential for tax avoidance. We would suggest that perhaps the devil you know may be better.
If the marginally less drastic action of Labour repealing its very own IR35 legislation of 2000 was introduced (again), there would likely be jubilation from contractors, as their IR35 fate would once more be back in their own hands.
What no IR35 off-payroll rules would look like (cont.)
Remember, since April 6th 2021 and in the run-up to it, many end-clients in the private sector steered away from using PSCs, largely copying the most risk-averse responses seen since the public sector variant was introduced on April 6th 2017.
Repealing the OPW rules (with the effect of reverting to ‘old’ IR35 in both sectors) would ultimately solve that issue. The end-client could once again engage contractors without worrying about the tax implications with its decision to engage PSCs and the additional admin burden that goes with the determination process.
However, for end-clients and fee-payers who have spent considerable time and money getting to grips with the current off-payroll landscape, as well as those end-clients who have faced significant tax and NIC liabilities, a row-back of OPW may be met with anger and frustration. Not ideal if you’re a new chancellor, even the UK’s first ever woman chancellor, wanting to attract billions of pounds of private cash for big infrastructure projects.
Off-Payroll rules repeal is difficult to see happening
Let’s not forget HMRC were struggling to police IR35 prior to the off-payroll legislation being introduced in the private sector on April 6th 2021, given its lack of resource, and the volume of contractors using limited companies.
The change in legislative direction, by shifting the responsibilities to clients and fee-payers, significantly reduced the pool which HMRC needs to monitor.
Given the huge amount of time and money which has been invested into the off-payroll legislation; the still-being-upgraded CEST tool, the off-set legislation and HMRC’s increased efforts into policing status, it is difficult to see how the new UK government could simply repeal the legislation, especially as it was Labour’s creation, and especially after the disastrous U-turn of the Conservatives still ringing in Reeves’ ears -- assuming she’s paying attention in this area. At the very very least, politically great care would need to be taken to ensure public confidence in such an action.
Further in favour of IR35 reform not going anywhere fast, keep in mind HMRC’s published impact of the off-payroll working legislation. In December 2022, the department stated than an estimated, additional £1.8 billion in tax revenue had been generated since the OPW rules were introduced. HMRC also stated that they have seen an “increase in overall tax paid by those who were most likely to be working through a PSC prior to the reform”.
Given the current economic climate it is difficult to see how, or why, this new Sir Kier Starmer-led government would jettison the not insignificant amount of money that the IR35 reforms have seemingly generated (and continue to generate).
Would OPW repeal mean reverting to the Intermediaries legislation?
Even if there is a government review of OPW, as Sobel and 17 other Labour MPs called for in 2019, it still begs the question whether ‘repeal’ would truly mean a return to the Chapter 8 ‘old’ rules, the Intermediaries legislation, whereby contractors determined their own IR35 status -- or whether some other measures, a half-way house of sorts, would need to be brought in to ensure the country’s coffers aren’t dented. Is there some IR35 part of Single Worker Status which Labour is keeping up its sleeve?
To avoid yet more disruption and potential animosity within the contracting industry, as well as trying to find new ways for the economy of generating income which would be lost by repealing the off-payroll legislation, we’re inclined to think it really is ‘better the devil we know,’ indicating any sense of regret among contractors that Reform UK didn’t get into power on July 4/5th really ought to be short-lived, at least as far as IR35 is concerned.