A recent consultation launched by the government is seeking to address the issue of ‘double taxation’ in the IR35 off-payroll working rules.
A recent consultation launched by the government is seeking to address the issue of ‘double taxation’ in the IR35 off-payroll working rules. The consultation period, which will run for eight weeks, starting on the 27th of April and concluding on the 22nd of June, will allow businesses to provide their feedback on the impact of any proposed changes to the rules.
The double taxation issue arises due to incorrect status determinations made by businesses, resulting in the fee-paying party (usually the recruitment company) being liable for Income Tax and NICs, despite the contractor already having paid a significant amount of tax outside of IR35. This flaw in the legislation has been highlighted by Qdos and other entities, leading to the consultation seeking to resolve the issue and provide businesses with relief from excessive tax risks.
End clients or agencies may voluntarily disclose errors to HMRC or HMRC may undertake a compliance check to see if the off-payroll working rules have been correctly applied. This could lead to the discovery of engagements that were incorrectly determined to be outside the off-payroll working rules. In such cases, the deemed employer (usually the agency) becomes liable to pay the Income Tax and NICs that should have been deducted under PAYE, had the correct determination been made.
However, the contractor and their intermediary (usually known as a their Personal Service Company) may have already paid some Corporation Tax, Income Tax and/or NICs on that income, resulting in overcollection of tax and NICs on the off-payroll working income overall.
In such cases, the contractor and their intermediary may be entitled to claim a repayment for any tax overpaid, subject to time limits and conditions. On the other hand, if the error is discovered and corrected before the contractor and their intermediary have filed their tax returns, they would need to file their tax returns based on the engagement being inside the off-payroll working rules.
Note: For the year 2022-2023, the primary threshold for Class 1 National Insurance Contributions (NICs) is £11,908.
In the above scenario, a client hires a contractor via a recruitment agency and agrees to pay a fee of £60.000 and the recruitment agency engages the contractor through their personal service company (PSC) and agrees a fee of £50,000.
The client determines that the contractor is outside the off-payroll working rules and the agency pays the gross fee of £50,000 to the PSC. The PSC then pays the contractor a salary up to the Class 1 NICs primary threshold, and the remainder as a dividend, which is the most tax-efficient way of payment.
At this stage, the recruitment agency has not taken into account any PAYE liabilities since the client has established that the engagement falls outside the off-payroll working rules. The PSC will pay Corporation Tax on their business profits, and the contractor will pay income tax on their dividends. A small amount of employer NICs will also be due. For ease of calculation, we have assumed that there are no business expenses related to the engagement.
The tax position is therefore:
| Type | Corporation Tax | Income Tax | Employee NICs | Employer NICs | Total |
| Recruitment Agency | – | – | – | – | – |
| PSC | 7,160 | – | – | 404 | 7,564 |
| Contractor | – | 2,439 | – | – | 2,439 |
| Total | 7,160 | 2,439 | – | 404 | 10,003 |
Note: Calculated using 2022-2023 tax rates.
Subsequently, if HMRC conducts a compliance check on the client’s determination and concludes that it is inaccurate, and the engagement should have fallen under the off-payroll working rules, it implies that the contractor should have been treated as “employed” for tax purposes, and the payment should have been classified as employment income. The recruitment agency should have then operated PAYE on the £50,000 payment and paid the net amount to the PSC.
Consequently, the recruitment agency will be deemed as the employer and held responsible for the Income Tax and NICs that ought to have been deducted under PAYE, resulting in the following tax position:
| Type | Corporation Tax | Income Tax | Employee NICs | Employer NICs | Total |
| Recruitment Agency | – | 12,460 | 4,853 | 5,943 | 23,256 |
HMRC would have already received £7,160 of Corporation Tax and £404 of employer NICs from the PSC, as well as £2,439 of Income Tax from the contractor. As the recruitment agency is accountable for paying the entire sum of Income Tax and NICs under PAYE, HMRC will have accrued an extra £10,003 in taxes and NICs for the engagement than what was originally due.
The consultation seeks to explore an alternative solution that would share the Income Tax and NICs liability between the recruitment agency and contractor, and feedback will be used to determine the best course of action.
It’s a promising development and the resolution could come into effect as early as April 2024, providing hope for businesses and contractors alike.
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