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The 'black art' of the UK small business tax mess (IR35)

27 May 2012

Overview

For more than a decade, UK tax laws have struggled and failed to adapt to the change in the nature of work in the community. This failure institutionally ensures that the UK economy has difficulty realising the full innovation and economic growth potential of its mass of self-employed entrepreneurs.

In 2000 Independent Contractors Australia founder and Executive Director, Ken Phillips, gave a paper at a conference describing the problem and its history in Australia and the reform that was occurring to fix the problems. At the end of the paper Ken referred to the similarities with the problem in the UK under its IR35 scheme. Australia has moved on to make substantial reform, although more needs to be done. The UK is frozen without resolution.

The UK is not alone. Canada is likewise frozen. The USA 'misclassification laws' also fail to address the issues and suppress entrepreneurship.

Summary of the UK problem. IR35

The problem is to do with
  • who sends personal income tax to the UK tax collector (HMRC)?
  • who must pay National Insurance Contributions?
  • who is entitled to receive tax treatment as a business?
The challenge to the UK tax collectors is the one common across the globe. Around one fifth of 'businesses' are now individuals (self-employed people). The tax authorities can't conceive of these people being 'businesses' but instead sees them (us) as being 'disguised employees'.

The UK 'solution' was to invent in 2000 a tax ruling (IR35) that tries to determine and declare that some self-employed people are employees. The recent words of the New South Wales Small Business Commissioner come to mind:

"To expect businesses to understand what seems a black art ... is completely unfair!"

The NSW SBC was referring to the horrors of the NSW workers' compensation scheme, but her comments equally apply in principle to IR35.

In 2010 the UK Coalition government lead by David Cameron gave a commitment to the self-employed community to review IR35 with a view to a fix. The outcome is a complete failure.

IR35 the latest mess

This month (May 2012) the HMRC has released the outcome of its review into IR35 and released its 'solution.' We challenge any ordinary person to read this and understand it. We repeat "To expect businesses to understand what seems a black art ... is completely unfair!"

The UK coalition government has done nothing to reform its approach to UK self-employed entrepreneurs. It has instead commissioned the tax authority to produce a new explanation of the 'black art' laws. The art of 'Yes Minister' is well and truly alive. Appear to do something while doing nothing!

Here's commentary from the UK:
  • Here come the lawyers! It seems that the new explanation is destined to force people who are their own business as a partnership or PTY to defend their position in the courts. This is hardly good for business, entrepreneurship and the UK economy.
  • A focus on 'scenarios' and contracts rather than the business structure itself.

Government departments to sack IT contractors

To make matters even worse, the UK Treasury has now ordered government departments to sack IT contractors who the departments think are breaching the newly explained IR35 laws. Here's the Treasury instruction.

The online contractor news outlet (contractorcalculator.co.uk) has calculated that if the UK departments apply these rules, it will result in an average GBP 8,000 ($A12,000) per year drop in IT contractors' remuneration without giving the contractors any of the perks of the civil service. This will surely result in the UK government stripping itself of the much of its IT skills base. The most highly skilled people will leave!

Further, the Treasury advice to its departments assumes that civil servants will be able to understand the latest IR35 bulletin and be able to apply it. Like ordinary people in business, the hapless civil servants will also not be able to understand the HRMC's new declaration of its 'black art'. The most likely outcome is that the civil servants will apply an interpretation designed to minimise risk to their own careers---in other words, find IT contractors to be employees.

Driving an economy backwards

In failing to resolve IR35, the UK coalition government displays a complete lack of understanding of the changing (global) nature of business rolling across the UK. It has instead chosen to institutionally cement the UK into an economically unresponsive position that makes business entrepreneurship and economic growth much harder than it should be.

UK Tax laws: more confusion

29 March 2012

When the Conservatives won office in the UK in 2010 they promised to clarify and simplify tax laws for the self-employed. They have not done this. The big confusion is around tax ruling IR35, introduced a decade ago. Tax officials are about to fiddle with it again.

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