Contractors set to be hit by new HMRC rules could find themselves in serious financial trouble unless they meet the legislative changes head on, a leading accountant has warned.
The new IR35 legislation became enforceable yesterday and will have a far-reaching impact on tens of thousands of workers who have been operating as contractors or freelancers.
It will see individuals who have delivered services under their own limited companies, and paid themselves accordingly, placed on payrolls of the business they have been working for, if they meet certain criteria.
That could lead to significant hardship, which may be exacerbated if those affected do not take a broader view of their financial position and plan accordingly, says Paul Hornby.
The managing director of JF Hornby & Co said: “A lot of people could find themselves in serious trouble if they have been living a lifestyle in line with earnings which from this month will take a significant hit.
“Furthermore, when it comes to the point that accounts need to be filed for the limited companies these people have been operating under, and corporation tax bills need to be paid, the financial woes of many will deepen.
“There will be a temptation for those affected to bury their heads in the sand, but that really is the worst possible approach they could take.
“We have spent the last year working with many of our clients on the best ways to handle IR35 and that would be my advice today – seek professional guidance on how to navigate a way forward.”
IR35 changes were at first due to be introduced in April 2020 but were delayed for a year due to the impact of the COVID-19 pandemic.
The legislation is designed to prevent individuals from setting up a business and paying lower rates of tax through it, when they are effectively in full-time employment with a single company.
People who are employed as contractors, but only work for one business – for example BAE Systems or Sellafield – are those most likely to have been affected by the new rules.
This is because the taxman believes they are effectively carrying out the work of a permanent staff member, but getting around paying higher rates of tax and National Insurance by operating as a contractor through a limited company.
Individuals who do this are able to pay themselves a salary up to the tax-free threshold without financial penalty.
They can also pay themselves £2,000 in tax-free dividends, with everything else up to £35,500 taxed at a rate of just 7.5 per cent.
The main tax efficiency comes through the ability of the individual to split some of their income with a spouse or partner, which means in many cases, a minimal amount of tax is paid.
Under the IR35 rules, a majority of those people will be moved into a position where they are on the payroll as an employee of the business they had previously served as a contractor.
That means they will be taxed at the appropriate PAYE rate and will have to pay National Insurance contributions – as will their employer.
Despite multiple campaigns for the controversial legislation to be scrapped, HMRC has pressed ahead with its plans.
“Tens of thousands of people have had their lives turned upside down,” said Paul.
“And while many will now be adjusting to life on a much smaller salary than they had been accustomed, they will also be looking ahead with a feeling of impending doom, because this is far from over.
“The tax bills and demands will soon start to fall on the door mats of these individuals, as the dividends they have taken from their limited companies come back to haunt them by way of corporation tax bills.
“After a 12-month battering from the pandemic, this will be the last thing that these people need. Lives will continue to be devastated by IR35.
“I cannot stress enough the importance of anybody affected by the introduction of these new rules seeking professional advice from a regulated accountant or tax adviser.”