Chancellor revokes contractors’ rights to decide payroll status

Last Updated: 29-11-2020

Reading Time: 8 minutes

In the run up to the budget, tabloids portended doom for contractors who work through a PSC. For those working off-payroll in the public sector, those harbinger headlines became reality.

The Chancellor announced that PSCs will have no say in how public sector clients pay them.

As of April 2017, it will be the client who decides if IR35 applies to an engagement.Working the contract through an agency or other intermediary won't impact the change, either. In such cases, the payroll decision will fall to the third party closest to the client in the chain.

Facepalm from man in suitThese are big changes. So both public sector client and agency will have help in reaching that decision.

On one hand, HMRC is creating a set of clear objectives to help clients decide if IR35 applies. On the other, HMRC is creating an online tool to reach a similar conclusion.

Spot the flaw?

Either way, the contractor has no input into how they receive their income.

Which takes precedence, IR35 or Off-Payroll?

Worth noting here is that these guidelines and tools will supersede current IR35 rules. But only for contractors operating in the public sector*.

That means public sector clients must have confidence in their eventual decision. Any new guidelines must therefore have the structure to imbue that confidence.

Now, we've seen HMRC's limited capacity for handling IR35 cases in the past. To move so far so fast means that the new remit must be less complex.

If not, why farm out the decision-making responsibility? And why only to the public sector?

As it stands, private sector contractors are still subject to existing IR35 rules*.

But what if these new guidelines work for raising taxes from public sector contractors…?
…it doesn't take a genius, does it?

The ramifications for contractors working in the public sector are nonetheless huge. Clients deducting PAYE tax and NICs, then paying them straight to HMRC, will leave many worse off.

Consider also that clients can deduct up to 5% for the privilege of working out those dues. The prospect of contracting in the public sector looks even more bleak.

*From April 2020, the client will decide Payroll status for private sector clients, too!

How do you define the public sector?

You'll find a detailed description in this report by the Institute for Fiscal Studies. It's entitled "The public sector workforce: past, present and future".

But for now, in its broadest outline, the public sector constitutes:

  • government, its departments and their dependencies;
  • national institutions owned by the public;
  • companies owned by the crown or public outright.

People who work for any of those bodies we can consider to work in the public sector. Whilst those bodies employ many people direct, they also need to outsource flexible workers. Often.

The reasons could be many, but the main two are:

  1. to complete tasks for which no skill set exists within the existing workforce;
  2. there aren't enough existing workers to meet the demand for a given public sector service.

It's how the public sector department pays outsourced contractors that's changed.

Up until now, the contractor has decided how they'll apportion deductions. The new off-payroll rule will take that decision from them and place it with the department.

Cynics would say that the Chancellor has rang in the changes to IR35 to kill two birds with one stone:

  1. an attempt to extract more tax from public sector contractors (d'uh!);
  2. to curb the outsourcing costs of governmental departments such as, say, the NHS.

What the Chancellor's blinkered view doesn't take into account is this. The turnaround is so detrimental, contractors may abandon the public sector in droves. If they stay, they may factor potential losses into their gross pay before deductions.

Don't forget, the contractor is self-employed. They're beholden to neither pay scales nor the public sector. They can even forego agencies and take on work in the private sector direct.

Either way, the cost to the government will be substantial. The public sector department in question will either:

  • face a larger invoice due to the contractor's increased rate;
  • miss targets because they cannot fill the roles with skilled outsourced staff.

And that's the key to the Chancellor's misplaced faith in his own figures. He sees contractors as employees who have no choice but to comply. This oversight may yet be his downfall.

How much more tax will contractors have to pay?

If a public sector client places a contractor on-payroll, they could lose 5% immediately. That's the fee we mentioned above. But that's about as straightforward as working out potential tax liability gets.

There are just too many variables to give a definitive answer to how much each contractor might pay:

  1. does the client use the online tool, the guidelines or a combination to determine PAYE and NICs?
  2. does the contractor work all year on-payroll, or some on-, some off-?
  3. is the contractor registered for VAT?
  4. does the contractor take all pay as salary and forego corporation tax on profits?

Over on Contractor Weekly, they provide two theoretical working examples. One uses a central government contractor to whom on payroll rules apply direct. The other imagines a local government contractor working through an agency.

These examples provide facts and figures using today's rates. They also explain how payroll departments will report PAYE and NICs in real time (RTI).

Plus, they look at any credits contractors may receive. Again, those will depend upon how they've structured their company.

Besides all of those great working examples over on Contractor Weekly are the comments. To date, there are around a dozen and all hint at the same thing:

the Chancellor has got his sums all wrong. Not to mention the sentiment of contractors who stand to lose an avenue of employ.

'Andy' points out that the public sector client will pay twice. First, they'll pay a contractor's higher rate and then their employer's NICs. That's a fair slice of any tax uplift snatched back from the Treasury before it gets there.

'Jo' asks another salient question. If she has to pay tax at source, what's her incentive for collecting VAT for HMRC, too?

Several commentators have suggested the changes are a backdoor route for zero hours contracts. Others question why contractors would pay tax at source but forego employee benefits.

And there are many more informed, poignant questions, but the real contradiction is this. It's the public sector, thus the taxpayer, who'll suffer most from these changes.

The media has described the changes as the Chancellor's 'assault' on contractors. But the contracting community not only grew with economic recovery, it shaped it. Contractors know the value they add to GDP and they'll not let the Chancellor bully them.

All the UK's large financial institutions recognise the contributions skilled outsourced workers make. All, that is, bar one. It's time HMRC stopped biting the hand that feeds them.

Author: John Yerou

John Yerou is a pioneer of contractor mortgages and owner and founder of Freelancer Financials, Contractor Mortgages®, C&F Mortgages and Self Employed Mortgages, trading styles and brands of the award-winning Mortgage Quest Ltd.

Posted by John Yerou

on April 7th, 2016 13:49pm in Contracting Matters Blog.