CIOT representative sets out need for employment tax codification

The evidence session took place as part of a short follow-up inquiry by the House of Lords Economic Affairs Finance Bill Sub-Committee into off-payroll working.

Witnesses in the session, which took place on December 6, were:

• Meredith McCammond, Technical Officer, Low Incomes Tax Reform Group (LITRG)
• Colin Ben-Nathan, Chair, Employment Taxes Sub-Committee, Chartered Institute of Taxation (CIOT)
• Alice Jeffries, Lead Tax Adviser, Confederation of British Industry (CBI)
• Stephen Ratcliffe, Legislative and Policy Committee, Employment Lawyers’ Association (ELA)

The off-payroll working rules (also known as IR35) make sure that workers who would have been an employee if they were providing their services directly to the client, pay broadly the same income tax and national insurance contributions as employees. From 6 April 2017 public authorities became responsible for deciding if the rules applied where they contracted workers who provide services through their own intermediary. And from 6 April 2021 all public authorities and medium and large-sized clients outside the public sector are responsible for deciding if the rules apply in respect of people they contract to work for them. If a worker provides services to a small client outside the public sector, the worker’s intermediary is responsible for deciding the worker’s employment status and if the rules apply. If the rules apply, income tax and employee National Insurance contributions (NICs) must be deducted from fees and paid to HMRC. In addition, employer NICs and Apprenticeship Levy, if applicable, must be paid to HMRC by the person who pays the worker’s intermediary.

Committee Chair Lord Bridges of Headley, Conservative, asked how the implementation of the off-payroll working rules have gone for businesses overall. CBI’s Alice Jeffries said that by April 2021, most of the CBI’s members affected by this were very happy to see it implemented in full and to implement compliance systems in the way they had been expecting. Jeffries said CBI members do not feel they have had sufficient support from HMRC in creating compliance systems.

CIOT’s Colin Ben-Nathan (photographed below) commented that HMRC are much better prepared (such as with a better CEST and better communications) than the rollout in the public sector in 2017 ‘which was very rushed’. LITRG’s Meredith McCammond said a lot of businesses were supported by agents that have already been through the 2017 changes in respect of public sector clients. She said: “HMRC’s real push and drive to produce some quite good products, meant that businesses were probably better prepared than we thought they were going to be.”

CBI’s Jeffries said the one-off cost to businesses is now £19 million compared to an original estimate of £14.4 million. She added that business is looking at an ongoing compliance cost that is probably larger than the one-off cost that HMRC originally envisioned.

Baroness Harding of Winscombe, Conservative, enquired about HMRC support for business on the off-payroll changes. Jeffries said HMRC webinars are at ‘too low a level’ and HMRC are not engaging with technical issues around particular questions in CEST or concerns about the way the questions interact. Ben-Nathan complained that CEST is a ‘relatively blunt’ tool. The guidance is much better than it was, he said. He added: “When identifying personal service companies, are they those that you are engaging with one to one or are they part of outsourced services?” Similar to Jeffries, ELA’s Stephen Ratcliffe complained that HMRC’s guidance in general ‘veers towards the easy examples’. McCammond was positive about the more tailored guidance on this matter compared to usual too general HMRC guidance. She added: “For the first time in 20 years, it has put out some guidance for people on what working through an umbrella company means. That is really important.”

Lord Butler of Brockwell, crossbencher, enquired about the main criteria on which employers have had difficulty in determining worker status. CIOT’s Ben-Nathan said the problem is that the whole area is fraught with words where judgment is required. He said: “One of the key issues here is secondary national insurance contributions. They are a significant cost. They will be added to by the Health and Social Care Levy, so there are vested interests, if you like, in looking to see whether the result can be in or out.”

Asked whether he thought an industry had grown up ‘to manipulate the use of the criteria’ ELA’s Ratcliffe said he did not think so. He said the delineation between someone who is an employee and someone who is not has been the subject of court decisions for around 200 years.

LITRG’s McCammond remarked that employment status is notoriously difficult, and the tests are confusing, subjective and difficult to apply, especially at the borderline. Similar to Jeffries, she said the costs on business of having to implement systems and processes and having to recruit people to manage the IR35 workload have been significant.

Lord Butler asked about contractors and engagers disagreeing about the determination of status. Jeffries said several of the industries where contractor relationships are quite common - for example, defence, construction, logistics and IT - have a strong, wide skills gap and a strong contractor power within that market. Many of the contractors felt quite able to appeal against engagers and to raise disputes, and that process is taking up a lot of time, she said. She said: “Another of the businesses that spoke to us about this said that for the 20 full-time employees they have working on IR35, the majority of their time is spent on disputes.”

Lord Butler questioned a system in which the engager determines the tax status of the contractor and the contractor has no recourse to HMRC to challenge that. CIOT’s Ben-Nathan replied that when tax returns are submitted, it is still open to the individuals to say, ‘I don’t think the law works this way, in fact. I’ll make full disclosure, but I think it works this way’. It will be interesting to see how many individuals choose to raise that point with HMRC, he said. On employers paying NICs that they cannot reclaim if it contradicts with a contractor’s self-assessment form, CBI’s Jeffries said businesses have raised the point about potential offset mechanisms, but HMRC has not properly engaged on this point as yet.

Lib Dem Baroness Kramer wondered if we have moved to a point where we have two classes of contractor, with very different powers over engagers. Jeffries said CBI does see the more skilled end of the market being much more able to choose to push the costs back on to the employer or the engager and to choose what they do within the market in a way that perhaps the other end would not be able to.

Check Employment Status for Tax (CEST)

Is CEST fit for purpose? asked the Chair, Lord Bridges. ELA’s Ratcliffe said we should not see CEST as codification of the law on employment status. He argued: “In a sense, it would almost be better if in that 20 per cent of cases [which CEST cannot answer] the system tossed a metaphorical coin and just picked one side, because that would avoid an awful lot of back and forth with HMRC… an awful lot of professional advice and an awful lot of uncertainty.”

Jeffries said CBI members find it very helpful that HMRC will allow you to rely on the outcomes of CEST but they want more information on how often they are required to review their existing contracts and check it remains accurate. She is worried that the guidance tends not to be updated on a particularly regular basis for case law outcomes. LITRG’s McCammond said non-experts need a tool like CEST and there are lots of cases that are not on the borderline and are not complex.

Ratcliffe complained that there is still, unfortunately, a degree of uncertainty with answers on CEST.

Mutuality of obligation

Baroness Kramer remarked that HMRC think just the simple existence of an employment contract determines that there is proof of mutuality of obligation and therefore that there is no need to include the issue in the CEST tool or to explore that any further. Ratcliffe replied that HMRC are arguing that mutuality need not be covered by CEST, when the Court of Appeal has said twice (Quashie case and another case called Windle) it should be.

The Chair Lord Bridges then interrupted to ask how to resolve the confusion about CEST in terms of its status and the outcomes in this large number of undetermined cases. CIOT’s Ben-Nathan replied that the Government said that they would look at employment taxes and employment law and see whether they could be aligned, but until there is some sort of codification for employment tax purposes ‘we are trying to nail blancmange to a wall, in many ways’. As a comparison, he said the codification of how to define tax residence after 2013 was better than the system beforehand.

McCammond said it is ‘high time’ for a clearer and simpler employment status landscape for both businesses and workers to navigate. To that end, it is very disappointing that we have not seen any response yet from HMRC on the employment status consultation, she added.

However Ratcliffe is against codification, saying ‘codification has not moved on because it is nigh on impossible’ because there is no defined concept anywhere in the world of what employment is and what it is not.

Baroness Noakes asked about the impact on supply of labour. CBI members say this has had a negative impact on their access to the labour market, and on flexibility, said Jeffries. The departure of contractors from the labour market has been a big issue, she added. She said IT, defence, logistics and construction were most commonly using contractors before this all started and all these businesses that were significantly impacted by other pressures on the labour market. They were affected by Brexit and by Covid, because to a large extent they were using non-UK individuals across the board. McCammond said there are fewer limited companies now but it is too soon to draw conclusions, not least because some of that is because of the lack of support that limited company directors got under the Covid schemes.

Umbrella companies

Questioned by Baroness Noakes, McCammond said LITRG has not seen any particular spikes in queries from workers about umbrella companies. She read into that that workers seemed to have managed to navigate themselves successfully into ‘an umbrella safe harbour’. but cautioned that problems with non-compliant umbrellas often take a while to surface. Emphasising that ‘there are some very good umbrellas out there’ she said that was needed to tackle non-compliant umbrellas was “a proper understanding of the problems, not just assumptions and drama and intrigue. Let us hope that there are some good responses to the call for evidence from workers, and let us hope that HMRC really uses the responses to inform how it will move forward with umbrellas.”

Ben-Nathan agreed, saying publicity would be very important: “Maybe more can be done on the wider message, communication and media, and maybe something can be said on payslips for people who are in umbrella companies, because we know that there is a check your payslip facility for HMRC.”

Asked whether bad companies could drive out the good McCammond said “there are a lot of workers out there who are a bit disgruntled about their reduction in net pay as a consequence of the changes, and some umbrellas will have entered the marketplace with their eye firmly on that gap in the market. As a consequence of that, disguised remuneration schemes have proliferated.” She accused HMRC of not doing anything really at source to stop disguised remuneration schemes, so lower-income workers get caught up in disguised remuneration and the whole tax avoidance cycle extends and widens.

However Ben-Nathan and Ratcliffe doubted were less sure that the new rules would increase avoidance. “I would be surprised if there should somehow be some deterministic link between off-payroll working and an increase in avoidance,” said Ben-Nathan. “The suggestion that what is admittedly a second attempt to close a tax loophole should itself lead to greater tax avoidance is questionable,” thought Ratcliffe.

Baroness Kramer said the differential now between what a non-compliant umbrella company will offer a worker versus what a compliant company will offer a worker has become very wide. ELA’s Ratcliffe said clients who are using umbrella companies would be well-advised to think ahead, because we know that the single enforcement body will be policing this area.

Jeffries said business would like a bit more clarity on how far down the supply chain they are supposed to look, but in the absence of that the risk-averse businesses are looking as far as they can go. They are hitting commercial blockers when they are asked to do things like look at payslips, she said. Agencies are unwilling to provide payslips, which would show the level of mark-up that an agency is providing. She said: “Those kinds of businesses will not be fobbed off with a letter from a barrister that has been given as a part of the marketing materials to an individual worker saying, ‘It’s not tax evasion, because you have paid some tax in X jurisdiction’, so that process is happening from the other end, said Jeffries.

The full session on 6 December 2021 is here.

Earlier session

An earlier session on the same day heard evidence from Andrew Chamberlain, Director of Policy, Association of Independent Professionals & the Self-Employed (IPSE); Phil Pluck, Chief Executive, Freelancer and Contractor Services Association (FCSA); Martin McTague, Policy and Advocacy Vice-Chair, Federation of Small Businesses (FSB).

Asked how many were affected by the change to off-payroll working rules there was consensus among the witnesses that the estimate of 180,000 felt like an under-estimate.

McTague said the biggest single effect the FSB had seen was on HGV drivers. “Quite a few of them have now fallen foul of IR35 and are pulling out of that operation. We all know and we have read plenty of news stories about the impact that has on the supply chain issues.”

McTague told peers that the FSB did a report a few months ago where they estimated the total cost of complying with tax legislation for small businesses at £25 billion. “It cost each self-employed person 52 hours to work through it. If you look across the spectrum of different tax regulations, this [off-payroll working] is the most difficult for our members to comply with. They find it confusing, opaque and difficult to use. You had a bad situation and you have just made it worse.”

Lord Butler asked whether engagers were correctly applying the rules and, if not, what practices were giving the witnesses the most concern. Pluck said that an FCSA survey two or three weeks before 6 April, when the private sector reforms came in, found 70% of engagers had not prepared for the IR35 reforms. “Part of that was a fear of the unknown, part of it was an assumption that the Government were going to extend the introduction yet again, having delayed it by a year, and part of it was down to the fact that they thought there was another way out of this and that engagers could create a neat package for themselves.”

One of those ‘neat packages’ is blanket bans, said Pluck. “Instead of doing a status delivery determination on all the roles they may have that they are outsourcing, they simply brought in blanket bans. Blanket bans were nothing but disadvantageous to contractors and posed a risk, and still do, to the entire supply chain, because blanket bans, by definition, will have errors in them.”

Chamberlain said that as well as the blanket bans, there is the problem of blanket decisions, which is where they say that everyone is inside IR35. “That is against the rules. According to the legislation, they are supposed to take reasonable care in making determinations, and 21% of freelancers in our survey reported that their clients had determined all engagement as inside IR35 without considering them individually.”

On CEST Pluck said that HMRC were now seeking to use the tool not as guidance but as a legal tool.

Responding to Baroness Kramer, Pluck said that if you were to move today from PSC status or limited company status to umbrella employment, “there is a fair chance that if you went with a compliant umbrella company it would tax you in the way an employee should be taxed in the UK. Therefore, you will lose about 20%... on what you got as a PSC.” But some umbrella companies are trying to lure the contractor with offers that are simply unrealistic: “They will say, “You don’t have to lose 20%. In fact, you only have to lose 5%, or you don’t lose anything because we can offer you this very tax-efficient loan scheme or we can offer you some other form of tax efficiency”. That is fiction. Compliant umbrella companies therefore get a bad deal, if you like, because contractors complain that they are losing so much money, but they are losing so much money because of their new tax status.”

Chamberlain drew attention to employer’s national insurance. “Let us say that you were on £400 a day and you were being paid gross. All of a sudden you are paid via an umbrella company, or you are on the payroll of the client or an agency, or someone’s payroll somewhere. They have to pay the employers’ NI because they are the fee payer, but they do not want to pay that. If they are an umbrella company, as Phil just said they are operating on quite low margins, so they cannot afford to pay 13.8% on top of whatever they are paying an individual. So you get a new day rate. Your new day rate… will probably be around 20% less than it was before.” You will still be taxed further on that, he added.

Pluck said around 30 per cent of people have left contracting – some have gone to umbrella companies, some have left contracting entirely.

McTague suggested the bad would drive out the good in the umbrella sector. Pluck said if your day rate is £500, the non-compliant umbrella will say that you can take home £450 of that, whereas a compliant umbrella loses out in that sense because they say, “I’m sorry, no, you can only take home £300 because we have these legal deductions to make”. “So there is great pressure on compliant umbrellas,” he concluded. He said the FCSA have seen very clear evidence that IR35 has driven up tax avoidance.

What is the solution, asked the chair. McTague said employment status was the root cause of the problem. “If it is clearer whether you are self-employed or employed and what your rights and responsibilities are, it would avoid a lot of these issues.” Rip it up and start again, said Chamberlain, arguing IR35 was a bad piece of legislation in 2000 and has got worse since.

Pluck said in an ideal world you would rip it up and start again, but that is not going to happen. More pragmatically, HMRC should call the CEST tool guidance and let the market place and tribunal case precedent determine how things work. He and McTague both felt the UK is now at a disadvantage against competitor countries in terms of attracting talented contractors. The regimes in Europe are not as draconian as those in the UK, said Pluck.

The full session on 6 December 2021 is here.

By Hamant Verma, CIOT Senior External Relations Officer