The End of Freelancing in the UK?

Last weekend there were articles in The Guardian and Daily Mail explaining how under the new proposed rules, if I were to work greater than 1 month for a client I would have to become their permanent employee.

I was contacted by TheRegister today after I tweeted about this and they have the following quote from me on a recent news article

“If it’s implemented it will change how freelancers work in the UK – not just IT but ALL industries. I guess most freelancers will take the easier route, go permanent and the flexible workforce will disappear.”

How did all this come about? Since 1999, there has been something called IR35 that the UK Government has tried to use to force one man company contractors to pay themselves fully through Pay As You Earn (PAYE) rather than through corporate tax on dividends on shares that saves on national insurance as I will explain later.

The main problem with PAYE and IR35 for contractors is that they end up paying MORE tax than normal employees as they have to pay an extra (very roughly) 13.8% national insurance normally paid by the employer because contractors, running their own company, are the employer AND the employee.

It turned out IR35 was full of holes because it was impossible for HM Revenue & Customs (HMRC) to legally differentiate contractor companies from other companies due to their varying situations and differing written contracts. Almost all IR35 legal cases have been lost by HMRC and most contractors pay themselves a small salary in order to build up national insurance contributions and the remainder through dividends. Tax is still paid but it’s through corporation tax.

Very very roughly, the contractor saves the employee national insurance of about 10% compared to a normal employee and avoids the ‘unfair’ extra employer national insurance of 13.8%. However, there are no entitlements to holiday pay, sick pay, healthcare, training, auto-enrolment for pension contributions and the right to bring a claim for unfair dismissal. Contractors choose to sacrifice those rights, take on the risk of not having continual work and also have extra costs such as computer hardware and substantial company accountancy fees.

In the last budget the Chancellor announced a review of IR35 and The Guardian and Daily Mail articles are probably a controlled leak by the Government to assess a new strategy. Unfortunately the new strategy is just as flawed.

Do the numbers make financial sense? How much VAT will be lost? My company claims very little VAT back on items purchased and hence almost all income collects VAT for HMRC at 20%. What about the 100,000 accountants (fees of typically £1000) that are used by contractors? What about the economic contribution of contracting recruitment agencies? How much will it cost for the HMRC to police this? All this will be lost to the UK economy.

It’s not just about money. The real damage is to my current and future startup clients who will no longer have access to a flexible workforce. My company supplies specialist mobile development skills to clients across a range of startup industries. They need work doing for short periods of time where they nearly always don’t have the specialist skills in-house. The work tends to be on and off because, as a startup, they don’t have the money or requirement to take on someone full time. Some of my clients are becoming successful now, contributing tax and this wouldn’t have been possible without a flexible workforce. What’s a flexible workforce worth to the UK?

Then there’s IR35. There were so many holes and interpretations that, as I said, it was unworkable for HMRC. This new proposal also has holes and possible re-interpretations. What about contractor companies registered overseas? What about client companies registered overseas? What if contractors join together to form a ‘software house’ – how different will they be to a consultancy such as Accenture? What if contractors or their clients split work to packages less than a month? If my company works for an individual rather than a company (it has happened) do they need to run PAYE? You get the idea. The new proposal might turn out to be equally unworkable for HMRC.

As I said at the start of this article, this would affect all industries, not just IT. It could change things for UK companies, not just contractor companies but, more significantly, those companies that use them directly or indirectly.