In his March 2017 Budget Day announcement of an increase in Class 4 NIC rates for the self-employed, calculated to raise £2.06bn between 2018/19 and 2021/2, Chancellor of the Exchequer Philip Hammond seemed to be following a well-trodden path.
He needed to boost revenues. Recent adverse media coverage had highlighted what some saw as the unfair tax status accorded to the self-employed. And, ignoring small details such as manifesto commitments, he repeatedly invoked tax fairness to bring NICs for the self-employed more into line with the NIC position of the 85 per cent of workers are employees.
Conveniently, he could also justify the increase on the basis that the benefits accruing to the self-employed through their National Insurance Contributions and through the new state pension were coming into line with those available to employees.
But he had badly misjudged the mood of his own party. With MPs protesting that voters would judge this increase harshly, the Chancellor rapidly backtracked. Without reference to the 85 per cent of workers who are employees, and for whom tax fairness was such an issue on Budget Day, Parliament will not be asked to think about these increases again at least until September 2017.
Boundaries
It is important to recognise that this is no more than the latest skirmish on the boundaries between the taxation of employees, the self-employed and companies. Wherever there are boundaries between territories, conflict is inevitable. And tax is no exception to that universal truth, especially when it comes to the territories which represent the different tax rates which may apply to earnings from a particular activity.
Consider for example an IT consultant. Or a locum doctor. Or a broadcaster.
Once all allowable expenses have been deducted, the profits from these activities – if categorised as self-employed income – will be charged to income tax at rates up to 45 per cent, with Class 4 NIC at 9 per cent on profits between £8,164 and £45,000, and at 2 per cent on profits over £45,000.
This is in marked contrast to the tax results if the activity is categorised as an employment. In these circumstances, PAYE will operate and the individual will pay income tax rates up to 45 per cent, but without the benefit of all the expenses set-offs available to the self-employed. What is more, the employer will pay Class 1 NIC at rates up to 13.8 per cent, and so will the employee at rates up to 12 per cent.
Notwithstanding the worker’s rights which might be available to an employee, employment status is clearly the place – the territory – where neither the payer nor the payee might wish to be. Self-employed status looks like a far more attractive place to be, at least when viewed from the tax perspective.
Other pastures
But are there more attractive territories? Yes there are, with limited companies foremost among these. In a company, profits may be retained at a tax rate of 19 per cent. And, while payments of remuneration will be subject to PAYE as employment income, profits paid out as shareholder dividends will benefit from the dividend tax allowance and the associated dividend tax rate structure. It may even be possible to extract value from the limited company in the form of a capital gain with tax payable at an effective rate of no more than 27.1 per cent if entrepreneurs’ relief is available.
