IR35, The Myths, The Lies and the Little Guy
#Setting the Scene
Today, something a little different, IR35 and how the myths, lies and the little guy have led the UK Government and HMRC to move IR35 determinations from the contingent worker to the hirer. What could go wrong....
This is not an HMRC bashing article, I'll be objective, both sides of any argument will be presented.
Get of jail card, I'm an IT Consultant and not an Accountant, my first language is Base64 and not English, ask my English teacher. IPSE, HMRC and even the Express presented their views on the recent IR35 reforms, the only representation for contingent workers has been in the comments box, it's time to address that omission. I've worked as an Employee for most of my career, Contracted for the past 10 years and since April 2021 a Zero Hours worker. Contracting was more by accident than design, with two interviews with the contracting role being offered first. Now after 10 years, without hesitation it's Contracting, the extra money is great, but I love the freedom to self-invest, decide on the training and technical progression, buy lots of gadgets and decide my future. Being married there aren't that many freedoms remaining....
Something a little....contentious...for the table below.... salaries and day rates.
The IT Consultant is earning anywhere between £400 to £900 per day, the current rate of £500 seems to be the going rate. This rate will be assigned to both a Consultant working via their own company (PSC) and an inside IR35 Umbrella (Brolly) worker. For a direct comparison, the Employee will earn £110,000.
For a real-life comparison, an Employee earns £60,000.
Lastly, a 2nd line Contractor earning £250 per day.
An Employee has an effective day rate, the total cost to the Employer, the yearly salary plus Employer NIC and Employer Pension contributions, divided by the number of days worked (44*5 = 220). The resultant figure will then be used to calculate the indirect benefits such as sick leave or holidays.
Pay attention. For the Brolly worker, the cost of the Employer NIC is illegally passed on to the majority of Brolly workers.
Why do umbrella company contractors have to pay Employer’s NI costs? - Contract Eye
IR35 Reforms Encourage Tax Fraud by Umbrellas - The Law Place
There will be inaccuracies and some omissions (Apprentice Levy), I'm a tech with an Excel spreadsheet and Google.
For the table, 'Employee' will be shortened to 'Permi', space issues.
The maths behind the table is near the bottom of this article.
Title | Permi £110K | Permi £60k | Contractor - £500pd | Brolly - £500pd | Brolly - £250pd |
|---|---|---|---|---|---|
Yearly Salary | £110,000 | £60,000 | £110,000 | £110,000 | £55,000 |
Employer NIC | £13,960 | £7,060 | 0 | £10,650 | £5,500 |
VAT | 0 | 0 | £22,000 | £22,000 | 0 |
Retained VAT | 0 | 0 | £1,300 | 0 | 0 |
Employer Pension | £4,950 | £2,700 | 0 | 0 | 0 |
Total Cost | £128,910 | £69,760 | £132,000 | £132,000 | £55,000 |
Employee Pension | £11,550 | £6,300 | £11,550 | £11,500 | £5,775 |
Employee NI | £6,080 | £5,080 | £464 | £5,584 | £4,780 |
PAYE Tax | £26,812 | £8,900 | 0 | £21,513 | £7,200 |
Corporation Tax | 0 | 0 | £16,041 | 0 | 0 |
Dividend Tax | 0 | 0 | £11,440 | 0 | 0 |
Totals | |||||
Total Personal Tax | £32,892 | £13,980 | £11,440 | £27,097 | £11,980 |
Total Tax inc Em'r | £13,960 | £7,060 | £16,505 | £10,650 | £5,500 |
VAT Paid | 0 | 0 | £20,700 | £22,000 | 0 |
Total Tax Paid | £46,852 | £21,040 | £48,645 | £59,747 | 17,480 |
Benefits | |||||
Day Rates | |||||
Direct cost to Em'r | £585.95 | £317.09 | £600 | £600 | £250 |
Total Indirect cost | 689.61 | £365.81 | £600 | £600 | £250 |
Training | £3,000 | £3,000 | 0 | 0 | 0 |
Sick Leave - 5.8 Avg | £3,398 | £1,839 | 0 | 0 | 0 |
Annual Leave - 28 days | £16,407 | £8,878 | 0 | 0 | 0 |
Death in Service | Entitled | Entitled | No | No | No |
Critical Illness | Entitled | Entitled | No | No | No |
Life Insurance | Entitled | Entitled | No | No | No |
Plus other Benefits | Entitled | Entitled | No | No | No |
Untaxed Benefits | £39,305 | £22,717 | £5,775 | £5,775 | £2,887 |
Expensable | |||||
Accountancy Fees | 0 | 0 | £1,800 | 0 | 0 |
IR35 Insurance | 0 | 0 | £150 | 0 | 0 |
Indemnity Insurance | 0 | 0 | £350 | 0 | 0 |
Life Insurance | 0 | 0 | £1,200 | 0 | 0 |
Brolly Fees | 0 | 0 | 0 | 0 | 0 |
Training | 0 | 0 | £3,000 | 0 | 0 |
Non-Expensable | |||||
Training | 0 | 0 | 0 | £3,000 | £3,000 |
IR35 Insurance | 0 | 0 | 0 | £150 | £150 |
Life Insurance | 0 | 0 | 0 | £1,200 | £1,200 |
Take Home | £65,557 | £39,700 | £65,789 | £60,471 | £28,625 |
Value inc Benefits | £104,862 | £62,417 | £71,564 | £66,264 | £34,400 |
#What does it all mean
Going to focus on the £110k Employee, Contractor and Brolly workers for direct comparisons and the results are quite surprising.
The Employee has a total cost to the Employer of £128,910 and pays £32,892 in personal tax. The Employer pays £13,960 in NI.
The Contractor has a total cost to the Hirer of £122,000 and pays £11,440 in personal tax. The PSC pays Employer tax of £464, VAT of £20,700 and Corporation tax of £16,041.
The Brolly worker has a total cost to the Hirer of £122,000 and pays £27,097 in personal tax, £10,650 in Employers NIC. The Umbrella Company collects the VAT and passes £22,000 to HMRC (can't account for the Brollies VAT reductions schemes).
What's HMRC's view:
PSC or another intermediary, pay broadly the same Income Tax and NICs as individuals who are directly employed.
The Contractor pays £11,440 in personal tax and only £464 in Employers Tax whilst the Employee pays £32,892 and Brolly worker pays £27,097. This is the crux of the matter. HMRC's view on tax and a rather narrow blinkered view of the Contractor's personal and Employer's tax contributions of nearly only a 1/3 of the employee's. HMRC are looking at the individual buckets of tax and not the total tax paid, then using the relatively small personal and employers tax amounts paid by the Contractor to justify to themselves why IR35 is needed.
Wait, what of the other taxes paid, meh they just don't count......apparently.
What of the overall tax liability for each worker, it may paint a different picture.
The Employee\Employer = £46,852
The Contractor = £48,645
The Brolly worker = £59,757 due to paying both Employee, Employer taxes and VAT via the Umbrella.
There is very little difference between the Employee and Contractors overall tax burden. The poor Brolly worker pays more than £11,000 in overall tax, that's 22% more than the Contractor and Permi.
There's more.....
The Employee has an overall direct day rate to the Employer of £585.95, with the additional rights and benefits its £689.
The Contractor has an overall day rate of £600 (day rate + vat)
The Brolly worker has an overall day rate of £600 (day rate + vat)
Knowing the day rate costs to the employer allows any benefits to be calculated.
The average number of sick days in the UK is 5.8 with 28 days on average annual leave.
The Employee indirect costs are 5.8 days * £585.95 = £3398.51 (sick) , £16,406.60 (annual leave) plus £3,000 for training = £22,805.11. The Employee also benefits from a plethora of workers benefits.
These are un-taxed benefits worth £22,805.11.
The Contractor and Brolly worker have NO additional worker rights or benefits, it's all contained within their day's rates.
Maybe HMRC should re-evaluate their view
"PSC or another intermediary, pay broadly the same Income Tax and NICs as individuals who are directly employed."
Contractors pay similar, Brolly workers pay 22% more tax and neither receives £22,805 of tax free benefits.
Let's take a closer look at the poor Brolly worker.
They get stung for 22% more tax and ZERO benefits, the real zero rights worker. The Contractor can expense additional costs and save 20% VAT and 19% Corp tax on any legitimate expenditure. The Brolly worker buys the training and insurance from their take home pay.
Whilst the Employee receives the above as a perk of the job.
Something extra (here), Why Contractor's pay more.
#So why bother?
That's a good question, many Contractors have flipped back to Employee or retired, some are thankful for a job during the pandemic and fewer still received a rate increase to cover the Employers NIC. 1/3 have managed to secure outside roles.
The truth is that the £110,000 IT Employee doesn't exist, it's likely to be a role of between £45k and £75. Take home drops to £39k when earning £60k, that's £25k less than the Brolly worker. The Brolly worker is banking on not being out of work, ill or injured etc, so it's a risk and reward balance that is getting harder to justify.
#Transition from PSC to Umbrella
The view from HMRC is that the Contractor will regain their time in not having to deal with running a business.
My personal view on this doesn't match HMRC's view, here's the issue I've faced so far:
Consistently paid after the 1st of each month, paid late.
Wrongly assigned to a weekly payment schedule.
Pension contributions are incorrect.
The pension can only be paid via BAC's, Pension company only accepts Direct Debit.
The tax code is incorrect, had to ring HMRC.
The frustration of never getting a reply from Umbrella.
More stress and more time wasted.
Overall, it's like buying a 5-star holiday, everything is organised and runs smoothly. Then being barred from the 5-star through no fault of your own. There's no choice other than pay similar amounts for a 1-star holiday, nothing seems to work very well, everything takes longer and a whole bunch of frustrations and stress.
#Effects on Finances
Sub-optimal:
On average the Brolly worker's overall income drops by 30%, that's due to all the extra taxes.
The reduction in take home is sub-optimal, salary sacrifice, saving for retirement compounds the pain.
Its not been covered 'Salary Sacrifice', for every pound (£1) sacrificed, nearly 0.50p is saved in tax. Sacrificing £10k doesn't result in a £10k take home drop, its £5k and £5k saved in tax. The pension scheme receives the full £10k. Salary sacrifice has a limit of £40k.
The loss of income hurts, the car's wont be replaced every 4 years, no TV upgrades every 3 years, eating out etc are a thing of the past, austerity has come to the Tenaka household.
Damaging:
The reduction in income hurts, loss of freedom and self-investment is beyond damaging. Yearly, as a Contractor my company would spend £4 or £5k on training, books, IT equipment, software licences, and items for this website, for the single purpose of expanding my knowledge and becoming a better consultant. Now faced with a much-reduced income, I'm not sure how I'll fund my IT habit. I'll decide tomorrow or maybe the next day......
Not entirely sure if hirers are prepared for the day when they instruct their Brolly workers (loss of freedom to choose) to complete tasks where there's no previous knowledge.
"Please sir can I have some more, 'MORE', yes sir, some training."
The Employee would be provided with the course, the Contractor would expense the course, and the Brolly worker has to pay for additional training out of their pocket.
Catastrophic:
The Employee receives tax-free benefits including long-term sick, the Contractor can retain money in their business or pay for additional insurance.
The Brolly worker is a ZERO hours worker, has no rights, no benefits and has limited ability to save due to the extra 22% tax. They are still contingent or temporary workers, they may be ill or between jobs.
#Double Tap
The Government has announced a 1.25% increase in NIC's. from 2022.
1.25% for the Employer
1.25% for the Employee
1.25% on the Contactor
2.5% for the Brolly worker, required to pay both Employer and Employee contributions.
This further demonstrates the unfairness the change to IR35 brings.
#Where's the Worker's Rights
Theresa May's Government commissioned the Taylor review into worker's rights and the Gig economy in 2016, 51 of the 53 recommendations were accepted in 2018. December 2019 Boris Johnson announced the 'Employment Bill' . The Bill has since been dropped or delayed.
The full Report
Insecure Work the Taylor Review
Condensed Report
beestonshenton.co.uk/recommended-changes
Employment Bill Dropped
boris-johnson-accused-of-backtracking-on-workers-rights-pledge
The condensed report by 'Beeston Shenton' is recommended reading.
#Lords Report
Government must address IR35’s inherent flaws and unfairness's, says Lords Economic Affairs Finance Bill Sub-Committee.
Off-payroll rules build on a flawed system—IR35
The Government severely underestimated the costs to business of implementing the changes
It did not take full account of concerns raised by stakeholders
It did not analyse sufficiently the unintended behavioural consequences of the proposed reforms
The off‑payroll changes will likely cause widespread disruption
Recognised the creation of a 'halfway house' of “zero-rights employees”
The Government should use the delay time to analyse holistically the problems uncovered.
#Public Sector Denial
The Public Sector introduced the IR35 reforms in April 2017. The knock effects are well publicised, IT project delivered late and over budget with nearly 50% of Contractors leaving the Public Sector. The knock effects are well publicised, hard facts are difficult to quantify, plenty of surveys.
Public sector IR35 reforms survey: projects crippled by contractor exodus
IR35 has led to ‘damaging unintended consequences’ for public sector employers
The devastating impact of IR35 on business and the UK economy
IR35 Highly Destructive To Public And Private Sectors
#Cant make this up
HMRC aims to increase tax revenue from Contractors from £700m 2017-18 to £1.5 billion between 2024-26 (here) with the IR35 reforms.
The cost to HMRC and Brolly workers from fraudulent Umbrella companies is believed to be £4.5 billion, this is prior to the additional high earner Contractors forced on to Umbrella pay roles.
Hidden cost of umbrella companies in UK ‘may top £4.5bn a year’ (msn.com)
Then there's mini Umbrella's
Mini umbrella company fraud - GOV.UK (www.gov.uk)
Lose £5 to save £1.
#Stop the Persecution of the Easy Target
Before starting this article I was expecting to demonstrate that a Contractor pays a little less tax than the Employee, the Brolly worker is paying a little more tax, wow, was I wrong.
The Employee pays less tax and receives substantial tax-free benefits.
The Contractor pays a little more tax than an Employee, receives no benefits, but can expense travel, hotels etc.
The Contractor now a Brolly worker is singled out and persecuted by HMRC paying 22% more tax and receiving no benefits or rights.
The Lords Report stated 'riddled with problems, unfairnesses, unintended consequences'.
It's clear HMRC's sums don't add up. The damage to the IT sector is difficult to defend based on its implementation in the Public Sector in 2017. There is at least a good to fair chance that Umbrella companies will continue to defraud HMRC and the Brolly worker of even greater sums than the proposed £700 million to 1.5 billion saving.
HMRC and the Government refused to further delay the reform until the pandemic is over, reconsider or even listen, despite the evidence. The same people excluded from any meaningful financial support during the pandemic are the same people being targeted by IR35 and expected to pay double NIC increases. Fine, don't provide support, those are the risks of self-employment, don't in the same breath tell us we don't pay enough tax, that's a lie, then destroy how we choose to work. Especially since Employee's have enjoyed furlough with up to 80% take home since March 2020.
Denial and lies is why IR35 still exists, HMRC won't admit it, ivory tower or head in the sand. HMRC, stop shoehorning Contractors into the Employee tax system, do your job, and provide Contractors with our own framework. IR35 can be abolished removing the complexities and confusion, and making life easier for all.
Entire volumes could be written about the impact of these reforms, I'm barely scratching the surface and didn't even touch on CEST, blanket bans, additional costs to hirers, day rates and the lorry drivers or other industries. But I've bored you enough and there was a real chance the soap box was about to become a soapbox mountain.
#What is IR35 and the maths behind the table
The off-payroll working rules are designed to ensure individuals working like employees but through their own limited company (often known as a ‘personal service company’ or ‘PSC’), or another intermediary, pay broadly the same Income Tax and National Insurance contributions (NICs) as individuals who are directly employed. These rules are commonly known as ‘IR35’.
Important facts for contractors - off-payroll working rules (IR35) - GOV.UK (www.gov.uk)
The rules themselves aren't changing, who decided does. Until April 2021 the Contractor decided their IR35 status, now that decision lays with the hirer.
#England and NI Taxes
England and NI PAYE tax rates and thresholds 2020 to 2021
£12,500 per year Tax Code 1250L
Basic tax rate - 20% on annual earnings above the PAYE tax threshold and up to £37,500
Higher tax rate - 40% on annual earnings from £37,501 to £150,000
Additional tax rate - 45% on annual earnings above £150,000
Income above £100,000, basic personal allowance (£12,500) is reduced by £1 for every £2 earned, Earn more than £125,000, the basic personal allowance is £0.
Employee Contributions - Class 1 NIC
On earning of above £184 each week paid at a weekly rate of 12% for employees earning between £184 and £967
2% on earnings for employees earning above £967 per week.
Employer Contributions
£520 to £737 a month - 0%
£737.01 to £4,189 a month - 13.8%
Over £4,189 a month - 13.8%
National Insurance rates and categories - GOV.UK (www.gov.uk)
Dividend Tax
£0 to £2,000 - 0%
Basic rate - 7.5%
Higher rate - 32.5%
Additional rate - 38.1%
Tax on dividends - GOV.UK (www.gov.uk)
Company Taxes
Corporation Tax - 19% on profits
VAT - 20%
#Assumptions
The following facts and figures are based on several online tax calculators and UK averages for sick leave and holiday entitlement etc. It's all been munged together providing a close a proximation of taxes and take home.
Working year is 44 weeks or 220 days
Average sick days per year = 5.8 days
Average holiday entitlement = 28 days
Average Employer Pension Contributions = 4.5%
Average Employee Pension Contributions = 10.5%
One IT training course will be provided per year at a cost of £3,000
VAT is charged at the standard rate of 20%, it's a transient tax and passed directly to HMRC.
VAT starts to be charged when your company earns more than £85,000.
Umbrella companies charge vat.
As always, thanks for your time and effort in reading this article, it is appreciated. Any facts or figures that are wrong or any additional content that is pertinent do drop a comment.
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Please be mindful of others, do refrain from swearing and defamatory comments, that's not a challenge. Regards Tenaka