Does IR35 spell the end of contract work?
Shutterstock  The introduction of IR35 reforms to the private sector this year has posed significant challenges for organisations that want to use contractors for short-term project work. Similar rules in Europe have also been less than effective. Roderick van Vliet looks at what is expected to follow. With pandemic restrictions gradually being lifted, many companies and contractors have been looking forward to getting back to business as usual. However, the new IR35 requirements that have recently come into force could create major headaches for organisations and impact the employment status of thousands of workers just as they are about to return to the office. IR35 is a UK tax legislation designed to prevent disguised employment, where businesses engage workers on a self-employment basis, generally in order to pay less tax or even circumvent employee protection. The changes to IR35, which were meant to come into force in April 2020 but were delayed by 12 months, mean that it is now the responsibility of private companies to identify the IR35 status of their contractors  and whether or not they should be paying the same tax and national insurance contributions (NIC). The intentions behind IR35 are positive: the government aims to address a perceived unfairness in the labour market, protect workers and increase its tax revenues. In practice, however, businesses will need to spend more time and money on formalising work relationships with contractors. Previously, using contractors was an easy way to hire a talented worker for a specific project, but now employers will need to put more effort in order to get help with short-term project-based work. As IR35 is tax legislation, when a worker falls within the scope of IR35, they are deemed an employee for tax purposes and are not automatically entitled to employment rights. This means that the worker gets all the disadvantages of being an employee without the advantages. Rather than solving an issue of inequality, IR35 may simply puts workers at risk for significant costs. Companies use contractors for a variety of reasons, but usually it is to get help or acquire specific skills over a short-term period, such as to work on a specific project. For both businesses and contractors, the arrangement is flexible. They can terminate the relationship at any time and the costs are capped: the business simply has to pay a fee to the contractors limited company, and does not have to worry about paying the workers taxes, NIC, or other employment benefits. For the contractor, earning money via a limited company is tax advantageous. They can pay themselves in dividends from their company, which are not subject to NIC. Meanwhile, their company only pays the corporation tax rate on profits, which can work out lower than income tax rates, especially for high earners. Contractors often prefer the freedom, flexibility, and control that comes from running their own business. This is all fine and above board when contractors are hired on a project-basis, but if they are hired on an ongoing basis, or receive benefits such as paid leave or sick pay, it is likely that they are operating inside IR35. This means that the company is treating them like regular employees, without paying the taxes and NIC. It is a priority for businesses to assess their relationships with contractors to determine those working on a project basis  and so can continue working as contractors  and those that are working in ways similar to regular employees. The positive side of IR35 is that it may benefit those contractors who receive lower incomes. They will receive more protections when hired as employees, such as access to a company pension. On the negative side, if contractors are deemed to be employees, then companies will need to pay more taxes, NIC, and it may be more difficult and expensive when a company needs to terminate the contractor relationship. Also, while the hope of this legislation is that contract workers will receive the same pay and benefits as full-time employees, this may not work out in practice. It is in the interest of businesses to find a way around this sort of legislation in order to lower their expenditure. Unsuccessful in Europe  If we look elsewhere in Europe, similar legislation has been tried before which aimed to address the issue of contractors, but usually, it hasnt worked out as planned. The Netherlands, for instance, changed its legislation regarding the misclassification of contractors in 2018 but ended up putting in place an enforcement moratorium because it created too much legal uncertainty for companies and contractors. The law was replaced last year. IR35 runs the same risk, as the classification of in or out of scope is checked afterwards, exposing parties to the risk of misclassification. If we look elsewhere in Europe, similar legislation has been tried before which aimed to address the issue of contractors, but usually, it hasnt worked out as planned.  Its worth highlighting that IR35 legislation is not unique  in many countries, if you want to be a contractor, you need to act as an independent company. Thats a very logical solution. You should either have your own business or be part of a company as an employee. Fundamentally, businesses hire contractors instead of full-time employees because it can work out cheaper. If governments do not understand the mechanics behind this decision-making process, then they are just trying to address a symptom, not fighting the cause. And that never works. In the short term, we are likely to see more umbrella companies emerge. These companies employ workers who are then hired out to work with businesses on a temporary basis. This is a practical solution that will enable businesses to continue working with contractors in the UK without encountering the IR35 issue. However, it may mean that contractors continue working for an employer without reaping the benefits of being a full-time employee. This is an example of how the market can find a way around regulation, which does not necessarily solve the bigger issue and may be seen as unethical depending on the arrangement. Some businesses may decide not to work with contractors at all, and just hire employees full-time. It can be a difficult decision to hire an employee when extra support is needed only for a specific project, and companies may be wary of the increased costs and paperwork that this involves. It can be a difficult decision to hire an employee when extra support is needed only for a specific project, and companies may be wary of the increased costs and paperwork that this involves.  Yet, there are specialist service providers that can help with employing people, ensure that their benefits are taken into consideration, and look after any legalities relating to where they are based. Overall, it is more beneficial for both the worker and the organisation to hire them as an employee. Businesses need a talented and stable workforce and workers want to receive their rights and benefits. Rather than placing the burden on companies to assess the status of their employees through IR35, the government needs to play more of a role. This could be done for example, by standardising contractor arrangements that are out of scope of IR35. Next to this, the causes of unwarranted use of contractors should be addressed by reducing the cost difference between contractor and employee. It can be much easier to hire whoever you need through a specialist company that deals with all employment issues, including law, taxes, and HR. This is especially relevant today, as in the digital world, remote workers can be based anywhere. That requires new solutions, not new tax legislation. Latest HR job opportunities on Personnel Today    Browse more human resources jobs