Evaluating the unintended cost of IR35 reforms: Freelancers increasingly operating through an umbrella company

​As contractors will know, the off-payroll working rules (OPW) made end-clients and employment businesses (agencies) responsible for ensuring the IR35 status of the contractors they work with is correct, and liable for the tax bill if they get it wrong.

But the results of IPSE’s inaugural IR35 Spotlight report – published this week and trailed in the Financial Times – show that the consequences of non-compliance with the rules have shifted away from contractors in name only.

Blanket approaches are down, but not out

In the immediate aftermath of the 2021 reforms, swathes of contractors were pushed onto payrolls by clients as a last-minute means of ‘complying’ with the rules (this was the case for a fifth (21%) of contractors IPSE surveyed at the time).

As IPSE endlessly points out, blanket ‘inside’ assessments by clients are an act of non-compliance with OPW, which requires the end-client to take “reasonable care” in their decision-making. It would be just as inappropriate for a client to adopt a blanket ‘outside’ policy.

Encouragingly, IPSE’s latest research suggests that blanket assessments are now much less common, with 11% reporting that their client operates a blanket assessment policy. Whilst this is still stubbornly high, it nonetheless suggests that clients are moving away from blanket approaches.

Similarly, contractors are now less likely to be working in roles advertised as ‘inside IR35’, with this being the case for six per cent of respondents compared to nine per cent in 2021.

It’s difficult to say whether this is more reflective of a decrease in clients predetermining the status of a role, or of contractors avoiding them in their role search – it’s likely to be a mixture of both. Whilst not strictly “against the rules”, pre-determined roles necessarily overlook whether a contractor is in business on their own account; so the fewer of them there are, the better.

But sloppiness in some areas is on the rise

Under OPW, medium and large-sized clients are not only required to conduct an IR35 assessment, but provide the contractor with a ‘Status Determination Statement’ (SDS), which should declare the contractor’s deemed tax status and the client’s reasons for reaching that view.

However, according to IPSE’s latest research, as many as three in five contractors (60%) did not receive an SDS from their client for their current engagement. This is a significant increase on our findings from 2021, which found that 38 per cent of contractors had not received an SDS. This is an alarmingly high figure, and could indicate poor communication between clients and contractors when it comes to off-payroll compliance.

Failing to provide an SDS is a breach of the rules by the client – but, adherence to it seems to be decreasing, despite HMRC’s grace period for OPW enforcement having come to an end in April 2022.

Supply chains seek to offload liabilities

Whilst some clients sought to mitigate their OPW risk by making blanket IR35 assessments, others implemented outright bans on contractor engagements, insisting that contractors joined a payroll without any notion of an assessment or determination.

Just over one in ten (11%) contractors worked with a client that had implemented a limited company ban in the wake of the 2021 reforms – that figure has collapsed to just 2% today. But is it possible that the reason for this collapse is because of the rise of a new tactic?

For our 2023 survey, we asked contractors about their encounters with ‘indemnity clauses’ – contractual terms stipulating that, should the ‘fee payer’ (typically an agency) become liable for an incorrect determination, the contractor will cover the cost.

Around a quarter (24%) of respondents said they have been asked or required to sign an indemnity clause as a condition of receiving an outside IR35 role.

As I recently wrote in IPSE’s ‘Freelancing in Focus’ newsletter on LinkedIn, it’s not clear whether IR35 indemnity clauses are legally enforceable – but the reality for individual contractors is that the risk and cost of challenging one in court is simply too high.

Will HMRC ever get a grip on its own rules?

It’s clear from our research that a chasm is opening between the letter of the OPW rules and the reality on the ground for contractors.

Having implemented the rules, HMRC are still yet to clamp down on lacking SDS issuance, and are yet to take a firm stance on new methods of IR35 risk avoidance by supply chains that were never intended by the legislation.

Two years on from the private sector reforms, IR35’s consequences still seemingly sit with contractors. It’s little wonder that, as featured in IPSE’s press statement this week, a huge proportion of contractors are walking away from inside roles, prioritising contracts with small firms and even looking for opportunities overseas.