IR35: a taxing time ahead for UK plc

"Sylvia Alano, Luxembourg, September 2000. Dave Howden, Portugal, August 2000. Duncan Bowers, Switzerland, February 2000."

Although it may read like a list of fatalities on an international war memorial, this is, in fact, just the start of a raft of names that are posted on the website of the Professional Contractors Group (PCG).

The document, which is nine pages long, lists only a few of the consultants and engineers that have left the UK over the last nine months. Some 284 have registered as having left since the middle of August alone, and this, the PCG believes, is a direct result of the government's IR35 tax legislation.

The IR35 regulations, which came into force this April, removed many of the tax advantages previously held by contractors who operated through personal service companies.

And although the debate over the legislation has been rumbling on since it was proposed in Chancellor Gordon Brown's March Budget statement last year, the issue reared its ugly head again last week when a High Court ruling put the law up for judicial review.

This has led some industry watchers to question whether IR35 is another example of the 'Kevin Keegan complex' that appears to haunt Prime Minister Tony Blair's government. Or in other words, is it yet another example of the government talking a good talk in relation to the new economy, but actually delivering disastrous legislation that will hamper its development?

Organisations such as the PCG see IR35 as destructive because they say it will only widen an already worrying skills gap. Europe alone is expected to see a shortfall of two million skilled personnel over the next five years.

A nice little earner
But sceptics argue that the PCG's complaints come as no surprise because IR35 has nipped a nice little earner in the bud. Freelancers were able to set up a company, charge customers through it and pay themselves in dividends that were taxed at a lower rate.

The original aim of IR35, however, was to stop the practice of firms sacking staff such as cleaners, and then re-employing them on a contract basis so as to avoid National Insurance contributions. It was also intended to put off individuals that wanted to pay less tax by resigning from a full-time job so they could do exactly the same job on a freelance basis.

So how did legislation with such laudable aims end up targeting one of the industries that is seen as essential to the future of UK plc? Simon Moores, chairman of the Research Group, believes that while the government's aims were laudable, there were other factors involved.

"It was badly drafted. The Bill was pushed through, without, I recall, much in the way of consultation with accountants by Dawn Primarolo [the Paymaster General], whose political track record isn't, as I understand it, favourable to high earning specialists," he said.

"What we had is something similar to the RIP [Regulation of Investigatory Powers] Act in that although the intention of the law was honourable and correct, [and] an element of the law needed to be defined clearly, they drafted bad legislation," he added.

But the issue does not appear to be simply a matter of poor legislation that can be fixed. It has already damaged the UK's reputation as a favourable country for IT companies to do business, and a glance at the government's e-envoy website reveals messages from some very angry business people.

Messages that carry such titles as "Cheating UK" give a flavour of just how high emotions are running in the IT sector as a result of IR35. And the effects of the Act may have long-term implications that make the fuss over petrol prices seem like a classroom revolt over extra homework.

All this serves to highlight the irony of a situation which sees the government trying to attract skilled immigrant workers from developing countries into the UK, while many of the IT professionals that are already here have started emigrating to sunnier, IT-friendlier climes.

But warm beer and late night curries would not appear to be enough to attract skilled workers from abroad. Indeed, some in the industry would argue that those who do bother to come to this country at the moment do so to improve their language skills rather than anything else.

But if this picture is a realistic one, the consequences for UK citizens are bleak. Moores said: "Throughout Europe, governments are expecting the long-term devastation of the retail and public sector workforce caused by disintermediation [the elimination of the middleman due to just-in-time communication mechanisms and information technology]."

"Forces of progress carry their own seeds of the acute skills crisis. No single nation has a large enough pool of information-literate workers available to scale and sustain the dramatic growth in the global network economy," he added.

As a result, Moores is worried about what he describes as "the lost generation" - a whole swathe of thirty-somethings who aren't prepared for the massive changes ahead.

All doom and gloom?
But is this doom mongering? Mike Thompson, director of research at the Butler Group, believes that it is. "I think that as an industry, we are trying to reinvent something that people have had to put up with for a long time. The Inland Revenue has had very, very strict definitions of what constitutes being employed and what constitutes being self-employed. I know this because I used to be self-employed," he explained.

"One of the key indicators was how much of your business depended on a single contract. The professional contractors who work for a long period of time on a single contract should be classed as employed. I feel we are trying to create a situation for the IT industry that puts it out of step with everybody else in the industry. I don't think it's supportable," he added.

But even if the legislation were to be basically correct, is it giving people elsewhere the impression that the UK isn't IT friendly? "I think it's a case of the IT industry moving itself out of the mainstream by appealing to the idea of the skills gap," said Thompson.

"It is being treated no more badly or differently from industries where there were skills gaps before, like the building industry. Or coming as I do from Hull, the trawlermen who were always classified as being casual labour so they couldn't get compensation. I think there is room for some halfway house. Perhaps you could work for a single employer for six months," he suggested.

Moores, on the other hand, believes that the IT industry should be treated as a special case, but doubts whether a Labour, or even a Conservative, government would be prepared to do so.

In the meantime, whether the legislation is dumped as a result of the judicial review or whether someone like Thomson can come up with a compromise, it would appear to be too late for one e-envoy website emailer who entitled his message: "Alex Alan: e-envoy for the brain drain".

The message points out the irony of a Labour government that strips developing nations of a natural resource in the shape of skilled IT workers.

"I'm off to New Zealand," it said. "My limited company closes on 31 October 2000, my flat is on the market. How much tax has that saved Great Britain? Emigration is a lot easier than I thought, my permanent residency application took four weeks. Sorry to sound so unpatriotic ... P.S. Tony Blair, I will be exercising my right to a postal vote."