House of Lords publishes damning IR35 report

Lords address the unfairness of IR35 and urge the Government to address legislation's flaws

A damning House of Lords report into IR35, titled ‘Off-payroll working: treating people fairly’, has been published, with the Lords calling on the Government to address IR35’s unfairness and make “wholesale” changes to the flawed legislation. 

Following a thorough investigation into the IR35 legislation and incoming changes to the rules, which were recently delayed to 2021 because of COVID-19, the Lords published an eye-opening analysis of these tax rules, which the Government have been advised to “completely rethink.”

The Lords do not believe IR35 has “worked properly throughout its 20-year history”, with the legislation “riddled with problems, unfairnesses, and unintended consequences”. As a result, the House of Lords Economic Affairs Finance Bill Sub-Committee, led by Lord Forsyth, believe that further changes to the rules in the private sector “will cause widespread disruption” as things stand. 

In the extensive 67-page report, the Committee drew a number of conclusions, the most notable of which we’ve explored in this article.

Address IR35’s “inherent flaws”

The message from the Lords was clear: due to COVID-19 and IR35’s failings, the private sector is unlikely to be ready for reform by 6th April 2021 - the date on which medium and large businesses are set to become responsible for deciding the IR35 status of contractors.

A combination of COVID-19 uncertainty, the IR35 legislation’s shortcomings and concerns about the fairness of further reform saw Lord Forsyth urge the Government to take stock and reassess things in six months: "The rules were deferred for a year because of the current crisis, but how prepared will businesses recovering from the crisis be to take on this extra burden on next year? The Government needs to think this through very carefully. We call on the Government to announce in six months' time whether it will go ahead with reintroducing these proposals.”

This point was elaborated on in the report, which stated: “Even if the economy were to begin to recover in the next 12 months, the severity of the economic impact of COVID-19 is so great that it would be completely wrong for the Government to impose a new burden on business in the form of the existing off-payroll proposals. However, business is likely to need considerably longer than a year to recover from the disruption caused by the COVID-19 pandemic.”

Address ‘zero-rights employment’

The Lords honed in on the unjust nature of ‘zero rights employment’, that occurs when contractors are placed inside IR35. Paying tax like an employee, but without receiving any employment rights in return for this significant expense was considered “unfair” by witnesses and creates a “class of zero-rights employees”, the report explained. 

“Treatment as an employee for tax purposes should only apply where there are employment rights and risk-sharing between employer and contractor,” stated the Committee, who told the Government to keep its promise to implement the recommendations of the Taylor Review - that suggests ways to create a fair balance between tax, rights and risk. 

Commission independent review of public sector reform

Changes to the off-payroll working rules in the public sector were introduced in 2017 and saw all public sector bodies become responsible for IR35, with the fee-paying party transferred the liability. 

However, with reports that contractors continue to be subject to unfair and risk-averse IR35 decisions, the Lords aren’t “convinced that the Government has learnt lessons from the application of IR35 in the public sector.” With this in mind, should the Government insist on enforcing similar reform in the private sector next year, the Committee has called for an independent review of “the implementation of the off-payroll rules in the public sector and an analysis of the impact of those rules on the labour market.”

CEST “falls well short”

The Lords examined HMRC’s IR35 tool, CEST, with a number of IR35 experts highly critical of the controversial technology. These concerns led the Committee to question whether CEST is “fit for purpose”, with the Lords agreeing with the witnesses that “the support offered by HMRC in determining status - and the CEST tool in particular - falls well short of what is required.”

CEST is considered less reliable than third-party tools, the report states. Qdos Contractor was referred to as one of the IR35 specialists with a higher reputation in the marketplace, “proven to give more reliable results because they rely on case law.”

Government act too little too late 

The Government faced criticism for carrying out its review into IR35 reform in the private sector so close to the anticipated introduction of the changes. With a “very short timetable and narrow remit”, the Lords said there was “limited scope for proper consideration of stakeholders’ concerns about the new rules - and less scope for proposing material changes.”

Meanwhile, the timing of the Government support made available to contractors and private sector businesses - albeit welcome - was also questioned. The Lords said it is “regrettable that guidance on key aspects of the rules was published only six weeks before their expected commencement.”

What happens now?

The Government is under increasing pressure to further delay IR35 reform in the private sector while it “rethinks” the legislation, including - but not limited to - the issues of ‘zero-rights employment’ and CEST.

With IR35 expected to be absent from the imminent arrival of the Finance Bill, there is perhaps renewed hope that reform will be postponed once more. However, given the unique circumstances caused by COVID-19 - meaning the Government may want the bill to be passed quickly - it would be unwise to read too much into this at this stage. 

Therefore, as things stand, contractors and private sector businesses must continue to prepare for the arrival of changes to the off-payroll working rules in April 2021. 

Read the full House of Lords report into IR35 here.

Qdos specialises in IR35 compliance. We conduct, on average, over 2000 IR35 status reviews every month and have handled more than 1,600 IR35 enquiries. We are currently working with more than 300 recruitment agencies and end-clients, helping them manage incoming changes to the IR35 legislation.