The OTS proposes changes to IR35

The Office of Tax Simplification (OTS) has released its review of small business taxation including IR35. Its proposals are aimed at aiding small businesses by reducing the complexity and uncertainty of the tax system. The report’s proposals include the merging of Income Tax with National Insurance, and three options for improvement to IR35.

IR35, long the controversial and unpopular tax law, has since 2001 exposed contractors to additional tax liability where their engagement is similar to one of employment. It has often been criticised by contractors primarily due to its lack of clarity and certainty.

The OTS was set up shortly after the election and was immediately instructed to review IR35. It has now made a number of proposals to the Chancellor who is expected to respond at or shortly after the forthcoming budget (23rd March 2011).The OTS put forward three proposals for improvements to IR35:

  1. Suspend IR35 temporarily, with a view to permanent abolishment
  2. Maintain IR35, but make changes to HMRC’s enforcement procedures
  3. Maintain IR35 but introduce a ‘genuine business test’ to remove those in genuine business from its scope

Many including the Professional Contractors Group, which has campaigned heavily against IR35, have welcomed the inclusion of the option for suspension. However one view must be that it is unlikely that the Chancellor will do anything that reduces the tax take of the Treasury. Abolition of IR35 without replacement would not therefore appear to be a realistic prospect, and a replacement that makes it easier to avoid tax would seemingly run counter to current policy to maximise tax revenue. It remains to be seen which option (if any) the Chancellor will choose to implement, and indeed the finer details of any choice made.

In the meantime, recruiters ought to be aware that IR35 continues to apply to contractors and may still be triggered where contractual and/or actual arrangements suggest a relationship akin to one of employment.

Watch this space for further updates.

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