‘NSFW’ (or not safe for work, if you don’t go for brevity) usually means websites or attachments that will see you having an awkward – and possibly career ending – conversation with IT and HR. But it could also apply to the employment tests that determine the tax treatment of payments to an individual (or to an intermediary for services provided by that individual (IR35)).
Although a tenuous and perhaps unnecessarily attention seeking introduction, the tax employment status tests and their application are often difficult or sometimes not fit for purpose. Here are five of the reasons why:
Old and outmoded
The tests of employment status for tax are derived from the Ready Mix Concrete case. This was heard back in 1968. The decision established that an employment relationship requires (i) the engaging party to have the right to exercise control over the worker; (ii) a ‘mutuality of obligations’ – i.e. the expectation that work will be offered and accepted (but see further below); and (iii) the agreement must be one of personal service by the worker with no right to provide a substitute. The remainder of the agreement must be consistent with an employment relationship.
The decision was seen as progressing beyond the ‘master and servant’ dynamic of previous tests, but does it reflect the reality of modern working practices? For example, post-pandemic, flexibility over working hours, location and holidays is increasingly used to attract employees. Is the employer’s right to exercise ‘control’ still a necessary element of an employment contract? Similarly, is it time to de-emphasise or remove ‘mutuality of obligations’ given the advent of zero-hour contracts?
Status tests for employment rights have at least tried to reflect changes in working practices, with the identification of the ‘worker’ who falls short of being an employee but is still deserving of rights. The tax tests are black and white; you’re either in or you’re out. This hard line requires tests that are relevant and clear.
What’s the contract?
Differences in bargaining power between organisation and individual lead to the risk of the written terms of a contract not reflecting its operation. This requires the ‘true’ terms to be identified before the tests can be applied.
While this seems a fair and sensible approach, it highlights how unwieldy the application of employment status tests can be. When cases are heard by courts and tribunals, there can often be a disagreement over the ‘true’ terms. At the very least, it requires disparate pieces of evidence to be pored over and the application of fine judgement.
Computer says no
To help businesses apply the tests, HMRC offer the online ‘Check Employment Status for Tax’ – or ‘CEST’ – tool.
HMRC welcome feedback regarding CEST, and it is updated to reflect this. It is, however, biased towards HMRC’s view of how the employment status tests should be applied. Mutuality of obligations is downplayed; perhaps to reflect a view that it is only relevant in establishing that a contract exists, rather than being a separate element necessary to establish an employment relationship – or maybe because it’s too hard to assess through an online tool.
Showbiz
In recent years, HMRC’s litigation has included a focus on tv and radio presenters engaging with broadcasters through personal service companies and other intermediaries. The question before the courts and tribunals is whether the presenter would be an employee of the broadcaster but for the imposition of the intermediary.
These cases make for interesting reading. Lorraine Kelly argued (successfully) that she played a character when on ITV and therefore could not be under the control of ITV. Similarly, they provide an insight into the working and financial arrangements of broadcasters. The decisions do little, however, to assist operators in less glamorous sectors to determine employment status and apply IR35.
Round and round
From April 2017, the compliance burden in applying IR35 to public sector engagements sits with the end-user, being a public body. HMRC are targeting their compliance activity on these bodies to collect the PAYE and NIC that they consider ought to have been accounted for under IR35. Anecdotally, I’ve been told the sum HMRC are looking to collect. And, put it like this, it’s not small.
This seems laudable – entities in all sectors should comply with the law. But what’s really going to be gained for the public coffers, as the tax would need to be funded by public money? There is also the consequential effect of the intermediaries being entitled to refunds of VAT and corporation tax on fees received, with the contractors themselves being due repayments of income tax on any dividends received from the intermediaries. Any tax recovered by HMRC might be a pyrrhic victory at best.
From April 2021, the compliance burden for IR35 arrangements in the private sector switched from the intermediary to the end-user (unless the end-user is a ‘small’ entity). Is it just a matter of time until we see a similar (or greater) level of compliance activity from HMRC for such private sector engagements? If so, this would lead to great disruption and uncomfortable conversations regarding the enforceability of any indemnities given by the contractors for tax suffered by the end-user.
Given this, the tests and their application should be remodelled and repurposed to be clear, relevant and effective. This will make it easier for taxpayers to ensure that they are compliant while also reducing the vast amount of time and resources expended by HMRC and tribunals in applying the rules as they currently stand.
