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Cover: Round table The enigma of the IR35
IR35: What do the rule changes mean for you?
Dazed and confused by IR35? Do you even know what it is or how it is used to assess income for a certain group of people? If you’re a broker and you’re baffled by off-payroll working rules, you’re not the only one
Originally introduced in 2000 to allow workers to pay less tax by setting up a limited company structure, the IR35 is a complex and often misunderstood piece of tax legislation.
The confusion arises from a variety of factors, including a perceived lack of transparency that has caused problems for brokers when assessing mortgage applications.
As well, the often-convoluted details of a contractor’s tax status, with some brokers even admitting complete ignorance about the IR35’s existence and how it’s used to assess a client’s earnings, have compounded the problem.
To add to the mix, last year’s changes to the IR35 mean that lenders can no longer use the previous method of calculating contractors’ gross earnings based on their day rates.
Misunderstandings and errors can prove costly for the clients themselves, as these could affect their affordability, or even result in a mortgage application being rejected. In a worst-case scenario, it could involve a time-consuming – and expensive – tax investigation by HMRC. Just ask Jimmy Carr.
The issue has become so hotly contested that the
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Association of Independent Professionals and the Self-Employed (IPSE) recently described the IR35 off-payroll working rule changes as a “disaster.”
To highlight the point, an IPSE report from last October said that over a third of contractors (35 per cent) have left self-employment since the changes to IR35, and while there are more than 91,470 contractors working in the UK’s IT industry alone, half of them have reportedly considered closing their businesses since last year’s reforms – and up to a quarter are now thinking of operating from abroad.
The report added that more than a third (34 per cent) were now working through unregulated umbrella companies and another third (36 per cent) were working through engagements deemed “inside IR35.”
Of more concern to brokers who have to assess a person’s income, four out of five contractors (80 per cent) working inside IR35 said they had seen a drop in their quarterly earnings; a quarter even said their income had dropped by more than 40 per cent.
To unravel the mysteries of the IR35, Mortgage Introducer, in association with Barclays Bank, brought together five leading mortgage experts to discuss possible solutions regarding how to improve the mortgage application process for
both contractors and banking staff.
Craig Calder, director of mortgages at Barclays; Jodi Spreadbury, senior mortgage and protection adviser at The Mortgage Broker Ltd; Sonya Matharu, senior mortgage broker at The Mortgage Mum; Martin Stewart, director at London Money; and Justin Wallace, intermediary relationship manager at Barclays, got together at a recent round table to discuss how umbrella companies structure income, as well as the changes that were introduced to IR35 in April 2021. They also threw in some suggestions on how to simplify a mortgage application for independent contractors.
KEEPING UP TO DATE
To kick off the debate, Wallace said it was imperative that brokers keep up to date with their knowledge of IR35, as workers often change their employment status, in much the same way legislators regularly amend tax laws.
“At some point in the future, they will go on to contract because they deem that as being a way to have more flexible work, so brokers must be aware of how they can flag these issues to their customers in the future,” he said.
Calder agreed, pointing out that with changes in laws that affect income, affordability, or lending policy, “there’s always a bit of a period of time to adapt.”
He added, “What is clear is customers have to pay tax, be they contractor or the noncontractor. The difference is that if you start having to pay National Insurance and income taxes at source, doing it for your business, that’s where the discrepancy lies.
“It’s about making sure that the broker and the customer understand what the net income picture now looks like compared to what it would look like if the customer were just deemed to be a self-employed contractor paying taxes through the self-employed company. It needs some thinking on behalf of the broker and the customer around how best to use the new ways to maximise that affordability when it comes to applying for a mortgage.”
There was a certain amount of consensus among the panel as all five disagreed with the IPSE’s scathing verdict that IR35 had been a “disaster,” but they conceded that more needed to be done to help everyone understand its importance, given that many workers, such as those in the film and IT sectors, predominantly operate as contractors.
Reflecting the panel’s mood, Spreadbury gave an insider’s view of what happens if you are deemed to have fallen foul of the rules.
“As a contractor, and as somebody who has had IR35 affect my own life, let alone my clients’ lives, I would say it’s definitely challenging,” she said. “The real difficulty seems to be from a legislation point of view – there don’t seem to be any hard-and-fast rules.
“At one point, I was told that I’d have to completely change how I had been set up for the last 15 years, [because] if I carried on the way I was going I’d potentially be taken to court with hundreds of thousands of pounds’ worth of fines and legal fees, only for all that to change two weeks later after being told I could carry on as I was. Honestly, it’s very, very messy.”
For Stewart, speaking as the head of a London-based brokerage, it’s the timing of the reform, not the IR35 itself, that’s a disaster.
“It’s that classic case of unintended consequences. It’s coming into the market again now when there are so many other headwinds that we’re seeing, so it’s just adding confusion to a very confused market,” he said.
Stewart was critical of HMRC, suggesting that “what might appear to be a very good idea in a dark room in a nondescript office … can be a very poor idea by the time it hits the consumer in the high street.”
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In response to Spreadbury’s comments and her particular experience, which echoed those of many brokers, Stewart called for a rethink of IR35.
“People were actively encouraged to take that particular route, [but] when they have been told they’ve gone the wrong way it makes for a very, very confused market for the consumer, which is always a concern.”
As a way forward, he suggested using a simpler system, harking back to the methods that were previously used for assessing a contractor, which he described as “very straightforward.”
Matharu agreed that “there is a lot of confusion,” both among brokers and clients. “It often fuels anxiety, and that’s a word that tends to pop up with my contractor clients – it’s confusing for them to get their heads around what the lenders’ requirements are, but they [the lenders] are also struggling to understand how the clients are getting paid. That’s hard for the clients to understand because that is why they then can’t get a mortgage.”
She nonetheless stressed that it was the job of brokers to help clients understand not just how their income structure works in the eyes of lenders, but what lenders are looking for – especially as borrowers are often not up to speed with the latest tax changes, as Stewart pointed out.
“Borrowers dip into our market every three to five years, and they forget everything that we’ve told them before, so they just assume everything is as it was,” he said, adding that educating the client is also part of the puzzle.
Calder suggested there was a conflict of interest, with clients wanting to “minimise tax but maximise borrowing,” while brokers followed the rule that “you can only lend on what someone pays tax on.”
Spreadbury cited an example of how a leading building society had changed its set-up for assessing a person’s annual income, from a straightforward system based on obtaining a figure from a day rate – times five days, times 46 weeks – to the current system, which involves umbrella companies and contractor pay slips that may include £2,000 a month as holiday pay, prompting a reminder from the panel that neither expenses nor holiday pay is taxable.
“Why does the government think that that’s the right way? That’s how they’ve been advised, but [virtually] no lenders like it,” she remarked.
Wallace agreed. “Even the most experienced mortgage brokers that I’ve spoken to who deal with these “[T]he broker and the customer [must think about] how best to use the new ways to maximise ... affordability when it comes to applying for a mortgage” CRAIG CALDER
customers struggle to explain how these payslips are set up. It’s very confusing. It’s opaque,” he said, opining that there should be a more uniform approach to umbrella setups.
The conflict between accountants and brokers was a recurring theme, with Wallace stating that contractors should be treated as employed.
“That’s fair because to all intents and purposes they’re employed by an umbrella company, and if someone’s employed, they should be able to get the same amount of money as someone who’s employed as a contractor,” he said.
“The challenge around these umbrella company setups is that outside there’s stuff that we’re not going to be able to use – and that’s where the challenge comes in, especially around expenses,” he explained.
Stewart, however, warned that brokers should not “ski off-piste” by becoming “pseudo tax advisors.”
He said, “I’ve got current contractors who almost lost their houses by using certain schemes. They work on the assumption that the tax man is so disorganised and too busy to challenge them.”
Instead, brokers should only “work the numbers” based on the data provided by the contractor’s accountant. That way, if there were a discrepancy, the onus would not be on brokers to correct it.
PROBLEMS WITH EXISTING PRACTICES
The panel was critical of certain practices within the mortgage industry and the lack of knowledge evidenced by some in the sector, as Spreadbury pointed out.
“There was a point in March 2021 where I called three lenders specifically who are normally very, very good at contracting and asked them what their IR35 changes were, and two of them responded with ‘What’s an IR35?’ so the education is just not there,” she commented.
The revelation raised a few eyebrows, prompting
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Stewart to remark, “My concern would be that this industry is full of one-man bands. ‘Fred in the shed’ who doesn’t see daylight, doesn’t have a BDM, probably hasn’t got internet.
“It’s endemic within the industry, and they’re the ones who can sometimes misunderstand the client information and send the wrong application to the wrong lender,” he said.
Reaching a point of inflection, he said that many of the delays that brokers were witnessing with certain lenders were “also from poor broking practices.”
He continued, “We need to turn this on ourselves and shine the light on us as well to make sure that we’re educated to the best of our ability to make that process for the client, the broker, and the lender as smooth as possible.
“If the broker doesn’t know what an IR35 is, it will lead to some significant mistakes going forward, which won’t help anyone in the industry.”
Wallace concurred, saying such an egregious lack of knowledge could have “serious implications” for contractors, as it might prevent them from getting mortgages in the future.
Matharu, however, said that while it was important for brokers to keep on top of current legislation, if it wasn’t a broker’s area of expertise, ultimately it would be wiser to hand the task to a more experienced person.
“If you’re feeling like you’re a bit out of your depth with it, pass it on, [because] our clients in this area need expert knowledge. They need that attention to detail, they need that care, and you need to be competent in what you’re doing,” she said.
Calder agreed, saying, “If the information put into the system doesn’t match what we take as income, you’re just going to get into this never-ending cycle of ‘he said, she said’ on how much the customer can borrow. Go to someone who really understands the market and understands the nuances.”
Stewart echoed the view, saying, “If it’s not your bag, it’s not your remit, refer away. It all goes back to education.”
HOW LENDERS CAN CHANGE
Due to the complexity of a contractor’s work history, both Matharu and Spreadbury suggested adopting a more flexible approach that was far removed from a computer’s tick-box system.
This could include setting up a separate department that focused solely on contractors – a team that would take a similar, flexible approach, in contrast to what was happening among some lenders.
“Bearing in mind that IR35 has been compulsory for a year and a couple of months, there are lenders out there who say they will only consider contractors if they’ve been under the umbrella company for at least 24 months, which is just ridiculous.
“If I’m saying to you that this guy has been a contractor for 20 years, he’s never been out of work for longer than three or four weeks, and you can see consistently for the last two decades he’s earned more than a hundred grand a year and never missed a mortgage payment – why would you not give him a mortgage if he’s got a contract in place? We’re not saying treat them completely different from somebody who’s bog-standard employed or somebody who’s self-employed, but don’t be so black-and-white with the criteria when this isn’t,” she pointed out.
Summing up from the industry’s point of view, Calder said “clarity of thought” regarding policy on what is acceptable as income was paramount, regardless of whether borrowers are self-employed as traditional contractors or have set themselves up with an umbrella company.
As such, holiday pay should be excluded in any income assessment, he added. “What’s important for us is to try to make the rules as clear as possible – that’s why we have manual underwriting,” he said.
Stewart, who came out in defence of lenders, saying “We’re all in this together,” agreed on the need to keep criteria as simple as possible, while defending manual underwriting.
He said, “Mortgage broking is not a digital process, and it’s unlikely to ever be. You’ll have technology that can do lots of heavy lifting, and we embrace that, but the heavy thinking will always come from humans, and we miss physical BDMs.”
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“[T]here is a lot of confusion [about the IR35]. It often fuels anxiety, and that’s a word that tends to pop up with my contractor clients” SONYA MATHARU
Wallace pointed out that as the new rules were pushing ever-greater numbers of contractors “down the umbrella route,” there was a need to adopt a simpler approach. From his and Barclays’ perspectives, that meant relying on a person’s last three pay slips.
“It doesn’t matter if you’ve had a limited company set-up before and then go on to an umbrella company set-up – we’ll base it on the three months’ pay slips, but it’s the same as [with] any employed person. We need to treat customers fairly,” he said.
WHAT ROLE CAN BROKERS PLAY?
Asked what advice they would give to brokers who have clients dealing with these changes, Calder once again pressed the point that “simplicity is key.”
He said, “If the payslip structure is as simple as possible, that will make it easier for the broker, the customer, and the lender in that space. Be really clear about the journey and say we will allow you a six-week gap, but beyond that you’re back to square one, particularly in this market. Having sight of a straightforward income always makes it easier for a lender.
“When it comes to underwriting, if the words and numbers don’t match up, then, actually, the loan could be declined, or it could be much, much lower. For me, it’s the umbrella company piece and the income structure.”
Matharu urged mortgage professionals to steer away from the black-and-white, approach as contractors’ circumstances often change, while Spreadbury called on brokers to keep up with their education if they wished to consider themselves specialists in the field, suggesting webinars as a good way to update their criteria.
For his part, Stewart advised both brokers and lenders to respond quickly to a mortgage application. “Within 10 questions, a good broker knows what’s going to happen with a mortgage with probably 90 per cent accuracy.” M I
KEY TAKEAWAYS
A flexible approach needed by lenders and brokers, as there’s no one-size-fits-all for contractors, and IR35 is a specialist field Simplicity, speed, and clarity of thought regarding what is acceptable as income are key Manual underwriting is inevitable for customers in this case Brokers and lenders need to be up to speed with changes in tax legislation, but should never shy away from consulting experts who understand the market and its nuances A separate department focusing solely on contractors would be welcome
The Panel
Craig Calder has been director of mortgages at Barclays since 2013. He formerly worked as head of tracker mortgages at Ulster Bank, and headed the mortgage department at the Royal Bank of Scotland. He was also marketing manager at both Alliance & Leicester and Abbey.
Jodi Spreadbury is the senior mortgage and protection adviser at The Mortgage Broker, a post she has held for more than 17 years.
Sonya Matharu is an award-winning senior mortgage broker at The Mortgage Mum and a company owner. She joined The Mortgage Mum in 2020; prior to that, she was a mortgage advisor and processor at Shore Financial Services for over four years.
Martin Stewart is a mortgage veteran with more than 30 years’ experience, having founded London Money. He is also the director of the financial services company.
Justin Wallace is the business development manager at Barclays intermediaries. He has spent 17 of his 30 years in finance at Barclays.
Contact your Barclays support team or visit barclays.co.uk/intermediaries for more details
