In April, tax changes will be introduced into two of the biggest markets in Europe for independent contractors: the UK and the Netherlands.
These changes will affect the use of independent contractors (ICs) in these two countries for differing reasons; but the net effect will be to curb the incremental rise in the numbers of workers supplying personal services in both jurisdictions.
UK. It is fair to say that tax rules in the UK have created the current climate for workers operating as independent contractors; and so it is also true that any removal of favorable tax arrangements will shape the climate going forward.
To understand where we are today, and the impact of the changes in April, it is necessary to go back to the end of the last millennium.
In the run-up to the year 2000, IT workers were in huge demand as fears about the so-called “millennium bug” spiralled out of control. The high fees many IT specialists could charge for their services and the ability to be flexible, safe in the knowledge that work was in plentiful supply, led many to look at setting up their own company. In turn, the number of accountancy specialists offering company-management services increased, to service the burgeoning numbers of one-man limited companies.
While other forces may have been at work, the number of individuals setting up in business and providing services outside the ordinary employment arrangements drove the UK government to introduce the law universally known as “IR35.”
Notoriously difficult to police, IR35 required a single-person company to account for pay-as-you-earn (PAYE) income tax and national insurance contributions (NICs) on earnings received from “relevant engagements” — engagements where the arrangements met certain tests for employment, as opposed to self-employment.
At the same time as servicing this new community of single-person companies, the accountancy-service providers developed the concept of “umbrella” companies through which any number of individuals could be employees of the umbrella company, and take advantage of tax relief on travel and subsistence expenses. In 1998, the UK introduced a system of dispensations which companies could apply for to obviate the need for to report such expenses paid regularly to their employees, below an agreed limit.
This type of vehicle proved attractive to temporary workers because the majority of staffing firms did not wish to employ their workers on contracts of employment, due to a host of obligations that went with such status. The tax relief was only available to employees, and by using umbrella companies to employ the workers and operate the payroll, staffing firms were able to make their services cheaper to their end clients. This seemed like a result all round – except for the taxman, who received less in the way of PAYE tax and NICs.
As employees of their own personal service company, independent contractors using the single-person limited company vehicle could also make use of these tax reliefs.
So, in 2015 the UK proposed removing the relief on travel and subsistence expenses, and despite opposition, it is likely to become a reality as of April 6. There are legal attempts to halt or amend the legislation but as the principal motive is increasing tax revenue, underpinned by the principle of ensuring fairness in the tax system between employees and non-employees, it is assumed it will proceed as drafted.
AS of April 6, tax relief on expenses will not be available to
- An individual who personally provides services to a person, i.e., the client, under arrangements involving an employment intermediary i.e. a staffing firm, umbrella company or other business who carries on a business of supplying labour, except where the individual is not subject to supervision, direction or control of any person in the manner of the work they perform; or
- An individual supplying their services through their own personal service company, whose work arrangements in relation to a single engagement fall within IR35.
The end result: Umbrella companies whose purpose is to enable workers to take advantage of the tax reliefs will go out of business, and this avenue for cheap labor will be closed. Due to the difficulties of enforcing IR35, the impact on personal service companies may be less severe but it will certainly close both these options for many workers whose work is supervised, directed or controlled in some way; and those operating through a personal service company who cannot tick the boxes to justify the self-employment tests under IR35.
While many umbrella companies will cease to exist, there may be room for consolidation with larger service providers continuing as professional employer organizations (PEOs), which have existed in the US for some time. The opportunities to make money here will come from the bigger purchasing power for insurances and employee benefits, which many flexible workers will not have affordable access to otherwise. The operation of payroll services will be attractive to many staffing firms, and a PEO-style employer may be attractive to individuals who prefer the flexibility of a professional employer without the hassle of running their own limited company. Some client organizations may see direct employment of temporary employees as a solution, provided they can outsource the administration effectively, and benefit from lower labour costs as well as flexibility.
It will be some time before the effect of this legislation is truly understood, but in the short term the cost of labour is likely to rise, as the taxman takes away this particular benefit of tax relief on worker’s expenses.
The Netherlands. In the Netherlands, the problem is purely one of false self-employment. The Netherlands’ current system of the Dutch Tax Authorities issuing a Declaration of Independent Contractor status, the Verklaring Arbeidsrelatie (“VAR”), which protects the client of the independent contractor against liability for unpaid tax, will disappear as of April 1.
In its place a contractor and the client to whom they intend providing services will submit a contract to the Dutch Tax Authorities. The latter will then confirm in writing whether the withholding and remittance of payroll tax and social security contributions can be waived. There will be no guarantee of protection in such confirmation if, in practice, it appears that the work is not performed according to the contract. The Dutch Tax Authorities can impose a supplemental assessment for payroll tax and social security contributions, and, depending on the circumstances, may also impose a penalty.
While there are transitional arrangements in place for existing contracts, the impact will take time to be fully realised. But with the removal of any guarantee of self-employed status, clients will be nervous of contracting with independent contractors in all but the most clear-cut circumstances, where the work amounts to a genuine statement of work.
Numbers of independent contractors have been growing in recent years to the point that, according to a report published by the EFIP (European Forum of Independent Professionals) in conjunction with the UK’s IPSE (Association of Independent Professionals and Self-employed), they are the fastest growing group in the EU labour market. Between 2000 and 2011, independent professionals or ‘I-pros’ grew by 82% compared with the relative stagnation of the employed population.
Whether this trend continues, in the face of government intervention, remains to be seen.