For many years, UK financial services companies have been able to benefit from a large pool of highly-skilled technical IT specialists that can be engaged on a project basis, as needs arise. Most of these independent professionals have operated through their own personal service companies (PSCs), allowing them to be taxed as businesses rather than as employees.
HMRC has historically regarded this as a form of tax avoidance and has worked hard to create a framework in which those working ‘as if’ they were employees pay the same levels of PAYE income tax and National Insurance as those who are actually employed. This initiative is commonly labelled ‘IR35’ after an Inland Revenue document that first proposed the approach. HMRC is now in the process of changing the IR35 rules in a way that has significant repercussions for independent IT consultants in the UK. New IR35 rules were introduced for public sector hiring companies in 2017 and are due to come into force for private sector businesses in April 2020.
These new rules make the hiring organisation itself responsible for determining whether any ‘worker’ they engage via that person’s PSC is working ‘as if’ they were an employee. In this case, HMRC expects the hiring organisation to ensure that income tax and National Insurance contributions are deducted at source from any payment due to the PSC and makes them, or their partners in the supply chain, liable for paying this money to HMRC.
At a stroke, this changes the game for both the hiring companies and the independent professionals that are affected. We are already seeing (October 2019) major banks such as Lloyds, Barclays and HSBC adopt policies designed to either remove PSCs from their supply chains altogether or to channel them through third party ‘umbrella’ organisations that employ them and deduct tax and NI at source. While this certainly reduces the risk of future tax liability, it may increase the risk that these organisations lose access to some of the IT skills they need to be competitive in the market. However, with budgets under pressure and continuing Brexit uncertainty, many banks may reason that this represents a sensible ‘holding position’ that saves money, reduces risk and allows scope for future review.
Consultants and contractors will need to decide whether they wish to continue working independently or whether it makes sense to accept a permanent job. If they elect to remain independent, then they will need to accept their new, client-defined status as ‘employed for tax purposes’ or seek assignments that clients classify as outside the scope of IR35. In broad terms these will be ‘business-to-business’ arrangements under which the client is buying a service, rather than an employment arrangement in which the client is hiring an individual to work as directed.
While it remains unclear exactly how the IR35 rule changes will affect IT consulting in the financial services sector, we see several likely consequences.
Smaller talent pool
It is reasonable to suggest that the number of skilled technical professionals prepared to provide their services in an independent capacity will decrease as some accept permanent positions, either with end user clients or with established consulting firms. This will make it harder for all FS companies to access the on-demand skills they may need to meet changing demand.
More outsourcing of projects
Faced with a smaller talent pool and nervous about future tax liability, it is likely the major banks and FS companies will terminate the contracts of independent IT consultants and outsource more of their work. The beneficiaries of this are likely to be consulting firms and offshore service providers. These companies will not only encounter increased demand from FS companies starved of skilled IT resources, they should also benefit from the ready availability of IT professionals released by their most important customers!
Increased interest in Statement of Work assignments
As IT professionals come to terms with the new taxation landscape, we are likely to see increased demand for Statement of Work (SoW) arrangements in which consultants are responsible for delivering specific business outcomes. Such arrangements will normally lie outside the scope of IR35 and will therefore allow a consultant’s PSC to be paid the gross amount invoiced, rather than have tax and NICs deducted at source. SOW arrangements are also likely to prove popular with clients, who will have access to the on-demand skills they need within a framework that manages deliverables, timescales and cost.
There is no doubt that the IR35 rule changes will have a big impact on the way in which UK FS companies engage the skilled IT professionals they need to design and build the services of the future. It may be some time before the consequences are clear, but IT consulting companies and those working within SOW-type arrangements seem likely to be the main beneficiaries.