Contractors under fire from HMRC – but there is some good news

The spring and summer Budgets, as well as the Autumn Statement, which was combined with the Spending Review, all seemed to put contractors at the heart of the government’s attempts to claw back money from every conceivable nook and cranny.

Quadruple raid on contractors

This year, George Osborne launched a quadruple raid on contractors:

1. Firstly, he replaced the dividend tax credit with a new tax-free allowance of £5,000. From April 2016, the government will set dividend tax rates at 7.5% for basic rate taxpayers, 32.5% for higher rate taxpayers and 38.1% for additional rate taxpayers.

He said in his statement:

These changes will also start to reduce the incentive to incorporate and remunerate through dividends rather than through wages to reduce tax liabilities. This will reduce the cost to the Exchequer of future tax motivated incorporation (TMI) by £500 million a year from 2019-20. The tax system will continue to encourage entrepreneurship and investment, including through lower rates of Corporation Tax.

1. Mr Osborne also announced in the summer: “…companies where the director is the sole employee will no longer be able to claim [NICs] Employment Allowance.”

Under current regulations, a contractor operating a personal service company can offset the £2,000 allowance against employers’ NIC arising on ordinary salary.

In other words, contractors employed by their own personal service company (PSC) who pay themselves any salary are currently entitled to claim the Employment Allowance if they have actually paid any employers’ National Insurance contributions. But this will no longer be the case from next spring.

(NB: as explained in this post, a ‘personal service company’ can be loosely defined as a limited company whose shares are largely or wholly owned by the sole director who delivers some kind of service for an end client).

1. David Gauke MP, the Financial Secretary to the Treasury, announced on December 9th draft clauses to be included in Finance Bill 2016. This included confirmation of the suspension of tax relief on travel and subsistence expenses for contractors who are “supervised, directed or controlled”.

This also comes into force next April and it’s estimated that it’ll affect 430,000 people a year who are employed via umbrellas or agencies. It’s forecast to raise £505million for the Exchequer between 2015 and 2020 and will apply automatically, meaning contractors will be deemed as working under “Supervision, Direction or Control” unless shown otherwise because, the government claims, SDC “is how an individual carries out their duties”.

A ‘get-out’ for PSCs was then spoken of:

Workers are assumed to be under supervision, direction or control, unless it is shown otherwise. This will not be necessary for those who are engaging a PSC, as the eligibility for relief will be determined based on whether or not the intermediaries legislation (IR35) applies.

This clarity and certainty for PSCs is welcome, according to the Association of Independent Professionals and the Self-Employed. In a statement also announced on December 9^th, the association said:

The draft legislation confirms changes to tax relief on travel and subsistence will not affect so-called ‘Personal Service Companies’ unless IR35 applies. This means freelance businesses will rightfully be able to claim the tax relief, subject to future possible changes to IR35.

1. Fourthly, and concerning IR35 itself, the government will “engage with stakeholders this year on how to improve the effectiveness of existing intermediaries legislation (‘IR35’) which is designed to protect against disguised employment”.

2015 is the year the option for complacency regarding potential IR35 liability was removed.

The government says the legislation is not effective enough, which means you, as a contractor, need to be aware of any changes. We discussed IR35 in this post, in 2014.

More good news (for now, at least)

As well as the ‘get-out’ for PSCs concerning IR35 mentioned above, the December 9^th announcement included further good news as contractors have been spared what’s been described as the “killer blow” – a plan to place some PSCs on a client’s payroll.

The idea to cap contracting at “month one or two” may yet return in the government’s reply to the ‘IR35 discussion document’, but this will not now take effect from April 6^th 2016, as had been feared.

There is, despite all the changes, a belief that truly independent PSCs who aren’t ‘disguised employees’ can still claim tax relief on travel and subsistence expenses after April 2016. PSC contractors working outside IR35 and are indeed ‘self-employed’, are not the same as umbrella workers and have different risks and rewards.

Contractors who own and manage a small limited company often bear the brunt of changes to the tax system, as they’re typically affected by developments in both personal and business taxation.

But they’re perhaps not the intended target here; it’s more a case of the legislation being a targeted action, aimed at companies with little regard for legislation and who are inclined to abuse rules on tax relief.

What do you think of all this? Got questions? Get in touch – we’re here to help.