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Lord Goodhart: My Lords, Clause 71 and its Northern Ireland twin, Clause 72, raise issues which are undoubtedly of great complexity. The use of personal service companies has grown very considerably in recent years. That is undoubtedly mainly due to the tax and NIC benefits where individuals use PSCs to solve their services requirements rather than contracting direct with the client to provide those services. I should say that those benefits accrue at least as much to the client as they do to the worker. At this time of night I shall not go into an explanation of how those benefits are obtained. To some extent the noble Lord, Lord McIntosh, has already done that.

There is no doubt that single person personal service companies are artificial creations which, in most cases although I accept not all, would not exist but for the tax and NIC advantages which they present. To that extent it is plain that they involve tax avoidance. The

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regulatory impact statement calculates that the proposed changes in law will bring an extra £220 million a year into the National Insurance Fund. That is a very significant amount. Furthermore, the sums avoided will get bigger if the avoidance route presented by PSCs becomes more widespread as, if no action is taken, it almost certainly will.

We therefore accept that something must be done. There has been a high-pressure lobbying campaign by some organisations, notably the Professional Contractors Group, to retain the status quo. However, as I have said, many personal service companies exist only for tax and NIC avoidance purposes and action does need to be taken against them. At the same time, we accept some of the complaints from the Professional Contractors Group and others.

First, we believe that the existing tests for self-employment, whether or not a personal service company is involved, need to be reassessed. In particular, the existing tests tend to look at the situation as a snapshot rather than as a film; that is, they look at a single moment of time. We believe that there is a great difference between a worker who is hired for short periods by a series of different clients to do a specific, specialist job and a worker who is hired on a more or less permanent basis by a single client to do a similar job. I hope that the Government will look carefully at the report that the Tax Law Review Committee will produce shortly on the subject of classification.

Secondly, the Government's initial proposals in the Bill met with many objections which they have now accepted are justified. They have moved some way to meeting those objections. However, we believe that, in doing so, they have opened up new reasons to object. One objection was that the Government originally proposed to apply a special test to decide whether the worker is employed or self-employed: a different test from the normal test which had been built up through case law. That met with serious criticism from the Institute of Chartered Accountants in England and Wales and other professional bodies concerned with taxation. The Government have responded to that, and the ordinary tests will now apply.

Another criticism was that the Government were proposing to introduce a certification scheme which would enable clients to purchase services from certificated service companies, without a risk of being held to be an employer. That was criticised as being bureaucratic, expensive and giving an unfair advantage to certified companies. The Government have therefore dropped the certification scheme.

We now come to the problem. Under the original scheme if the client hired a worker through a personal service company and the worker was treated as an employee, the client would have had to pay the employer's NICs. That is what happens if there is a direct contract between the client and the worker. If the employment tests are satisfied, the client pays the NICs and not the worker in the case of a direct contract.

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Under the Government's new proposals employer's NICs will be paid, but they will be paid by the personal service company on the receipts from the client and not by the client itself. This, we believe, is wrong. It gives a significant advantage to a client which deals with a personal service company rather than directly with the worker. In borderline cases it plainly shifts the risk of an adverse ruling from the client to the personal service company and, through that company, to the worker himself or herself.

There are four main objections to that. First in most cases it is frankly easier for the client than for the worker to bear the risk of having to pay employer's NICs. That is especially so where the client is a substantial company and may have a number of short-term contract workers across whom it can spread the risk.

Secondly, if there is a risk of an uncertainty as to what the status of the worker is, it is plainly easier for the client than for the worker to get legal advice and to form a judgment of the degree of risk. The parties therefore are not, when they enter into contracts with each other, contracting on the basis of equal information and therefore on an equal footing.

Thirdly, it follows that if a dispute arises and has to be fought with the Inland Revenue, it is plainly easier for the client to fight it than for the worker to fight it.

Finally, pressure on workers from clients to form personal service companies, even if the worker does not want to do so, which already exists, will continue and may very well increase.

We therefore find ourselves in a difficult dilemma as regards our attitude towards the Government's amendments, and indeed towards the clause as a whole. There is undoubtedly a serious NIC avoidance loophole which needs to be blocked. The Government have to some extent improved their original scheme and it now appears to be acceptable to a number of professional bodies which criticised the original scheme. But we think that the drawbacks for workers--and we are looking at the problems facing these individual workers, many of them experts on whom the economy relies heavily--of placing on them the liability for employer's NICs and the risk in cases of uncertainty have been underestimated.

We will therefore have to ask the Government, even at this very late stage, to reconsider their proposals. We find ourselves unable to support the clause as it is proposed to be amended by the Government.

Finally, I have put down some minor amendments. In view of the lateness of the hour and the fact that they are not of primary importance, I shall not be moving them and I need not therefore explain them.

I would add a coda, however. The Professional Contractors Group plainly represents a large number of those people who have created personal service companies in the IT industry. It has a very strong view. As I have made clear, I do not, by any means, agree with everything it says but it is directly affected by this legislation and its voice needs to be heard by the Government.

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After the Committee stage in your Lordships' House, the Government held consultation meetings with a number of the major professional bodies such as the Institute of Chartered Accountants, the Chartered Institute of Taxation, and so on. However, as we understand it, the Professional Contractors Group was not invited to a meeting until 22nd September. It was then simply told of the Government's proposals, which were to be published on 23rd September and, indeed, were published on that date. We believe that it should have been properly consulted. It has a justifiable grievance in having been given, effectively, the brush off.

10.30 p.m.

Lord Higgins: My Lords, the noble Lord, Lord McIntosh, in his opening remarks, quoted what I said in Committee with regard to the question of avoidance. In no way do I go back on what I said then and the statement he quoted. We are clearly concerned that there should not be unjustifiable tax avoidance. Having said that, quite clearly the proposals which the Government have put forward have given rise to considerable concern and are now radically changed.

The original proposals are now radically different from the amendments before us and can, at best, be described as half-baked. However, our fear is that even after the changes now proposed, those in industry with service companies, quite legitimately, will still be adversely affected. As has been pointed out, this is of particular concern to those who take an entrepreneurial attitude in, for example, the IT industry or North Sea oil.

The original proposals included a new control test to determine whether or not someone was self-employed. We criticised that heavily in Committee. The Government have taken it on board and, as I understand it, have now dropped it completely. We are now considering, for the first time something quite different. Similarly, in Committee the question of certification, rather on the lines of the construction industry scheme, was suggested. Again, that has been dropped.

The Government now propose to use the existing test to determine the boundary between employment and self-employment. They introduced some new terminology. I understand that these companies are now to be described as “intermediaries" whereas previously they were personal service companies.

The noble Lord, Lord Goodhart, pointed out that there are some problems in applying even the existing definitions in this field. We believe that there are now significant objections, despite the changes that have been made to what is proposed. First, the burden has now been shifted from the client to the so-called intermediary. As the noble Lord mentioned a moment ago, the intermediary will carry the burden of administering the scheme and the risks involved in it.

Secondly, we believe that the new proposals will have a significant adverse impact on small entrepreneurial companies as against large, or even

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large international, companies. The representations we received subsequently suggest that the system that is now proposed is not fair to small companies. In effect, the small companies will pay PAYE and NICs on their entire revenues, which will include an element of profit.

The representations also point out that there is usually a significant difference between the fees charged by one of these companies and the amounts normally paid by employees. However, the Government are proposing to allow only a limited amount of deduction as far as concerns expenses. The representations received suggest that that deduction, which is 5 per cent, is not adequate in the circumstances. That, in turn, will have an adverse effect on investment by such small companies, which we believe may lead to some people moving offshore. That will not be in the interests of the UK economy.

In essence the complaints which we have received suggest that the new proposals make a distinction by applying the self-employment test to companies, but in fact the consultant is not a self-employed tradesman but an employee of one company providing a service to another. The amendments which are now before us do not provide a satisfactory approach as far as this matter is concerned.

I turn now to the way in which the matter has been handled so far and the way in which we believe it ought to be handled from now on. I should just add one point, which is that I was somewhat concerned, against the background of the Inland Revenue taking an aggressive attitude in these matters, though one which as far as the objective is concerned is legitimate, at a cutting from one of the papers last Sunday--which I have checked did in fact exist--to the effect that the chairman of the Inland Revenue, in issuing a newsletter, has made a statement saying he finds it exciting and important being at the forefront of implementing the new Labour Government's policy agenda. I find that a quite extraordinary statement for someone in the position of a senior civil servant in the Inland Revenue.

Some years ago we had a chairman of the Inland Revenue who seemed to think there was absolutely no distinction between avoidance and evasion and was determined to treat both the same. It is important that the chairman of the Inland Revenue should consider carefully the remark which he has made and what ought to be done about it.

I turn now to the way in which this whole matter has been introduced. Another place had no opportunity to debate the matter at Committee stage, where it would have had an opportunity of going into it in depth. In seeking to justify this, the noble Lord, Lord McIntosh, at Committee stage, said that that Committee stage was already half-way through by the time the Chancellor of the Exchequer made his announcement. Unless the whole thing was totally cooked up on the spur of the moment, there was no reason why a new clause at the end of the Committee stage--because that is where they turn up in another place--could not have been tabled and they could have looked into the matter

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in depth and in the rather more favourable circumstances of a Standing Committee than we have had perhaps in your Lordships' House.

What then happened was that the new clause was introduced at Report stage. I shall not go over the history of it again, but it appeared to be a device by the Whips to delay proceedings in the hope that the rebellion which was then going to take place on the matters we have been discussing earlier this evening would not take place at prime time but in the middle of the night. In the event it totally failed. It came up in the middle of the Today programme. None the less, this new clause was put down, the Report stage was guillotined and there was no opportunity adequately to discuss these matters. We find ourselves in a situation where the matter arrived in your Lordships' House at Committee stage. We have of course debated it and as a result of that we have found that the new proposals are in front of us.

In the course of debates at Committee stage the noble Lord, Lord McIntosh, said two things: first, that he would offer a seminar which we could attend before the House resumed so that we could understand where the Government had got to; he added:

    “I undertake that the consultation will be fully published well in advance of the Report stage. We will report to noble Lords and the public about the issues raised in the consultation process".--[Official Report, 20/7/99; col. 923.]

That has not happened despite what the noble Lord said. We are also receiving considerable complaints about the way in which the consultation process proceeded from those who were involved. It would seem that there was some degree of segregation between some of those who made representations, perhaps the larger organisations which were seen privately by the Minister concerned in the Treasury, the Paymaster-General, and another consultation process which took place with various of the other smaller bodies, and the Minister has kindly provided me with a list of those who attended this meeting.

It is alleged--no doubt the Minister can tell us whether or not this is so--that halfway through this meeting a telephone call was received which indicated that the revised proposals would be published the following day. This did not suggest that the consultation was such that the Government were open at that stage to changing their mind. It would appear that the consultation consisted of the people at that meeting being told what the Government were going to do and that was it. There does seem to be very considerable disquiet. One could perhaps describe it as a charade, although that might be a slight overstatement. At all events, it was not a satisfactory way of going about such matters.

I turn, finally, to how we should go forward from now. As I said, the Government have put forward new amendments but we have not had adequate time to get all the representations that we would like, despite the marvels of e-mail. Given this particular case, which is perhaps a little unusual inasmuch as the IT industry has been involved in it, I wonder how things will proceed in the future. My e-mail has been flooded with representations on the subject.

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If we allow the matter to go forward at this stage, there are still a number of important issues to which the noble Lord, Lord Goodhart, has drawn attention and about which I have expressed concern. If the government amendments are accepted, the Bill will go to another place. But we know only too well that it will be very difficult for those in another place, on seeing these proposals for the first time, to discuss them in detail. There will be considerable trouble in terms of having time to receive representations and adequately move appropriate amendments.

Consequently, I have reached the conclusion that it is not appropriate that this clause should remain in the Bill. I think that another place should be given a full opportunity to look into the matter and discuss it. The noble Lord, Lord McIntosh, raised a fundamental objection to that conclusion. I suggested that such matters could be dealt with in a separate social security Bill if there is one in the new Session relating to the state second pension. That would be one way of dealing with the matter. Alternatively, it could go into a Finance Bill. I do not think that it would be overstating the noble Lord's position to say that he has argued that that is really quite impossible because Finance Bills can only be concerned with revenues that go into the Consolidated Fund and not those which go into the National Insurance Fund.

I have already pointed out that it seems to me that that is probably an obsolete approach for the simple reason that at the beginning of the year we agreed a transfer of functions Bill, the exact title of which I forget, which transferred responsibility for the Contributions Agency--this matter relates to that agency--from the Department of Social Security to the Inland Revenue. Therefore, as this is an Inland Revenue matter lock, stock and barrel, it is absolutely clear that it should be dealt with in a Finance Bill.

However, the noble Lord has said that that is not so and the matter cannot be dealt with in a Finance Bill. Such a procedure would, of course, give the House of Commons a full opportunity to debate these issues, together with the associated tax provisions which will have to be in a Finance Bill in any event. I have news for the noble Lord. It is normally the practice that the Finance Bill contains only measures of the kind that he has described. But it is also the case--I can give the noble Lord an example from 1987--that a resolution can be passed whereby such practice can be over-ridden and appropriately adjusted. If the noble Lord would care to look into the situation in another place on 23rd March 1987, he will find a record of a resolution, which was put before the House and approved; and, indeed, acted on. It related to the procedure under “Personal Pension Schemes", and stated:

    “Ordered, That, notwithstanding anything to the contrary in the practice of the House relating to matters which may be included in Finance Bills, any Finance Bill in the present Session may make provision for payment of sums out of or into the National Insurance Fund"--

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I repeat, the National Insurance Fund--

    “in connection with provisions relating to the payment of minimum contributions under Part I of the Social Security Act 1986".

So the noble Lord, I believe, has been misinformed as to the true situation. There is absolutely no reason why a similar resolution should not be passed. Indeed, given the structural changes which have been made, it seems to me that it would be appropriate to reconsider the normal procedure, especially since the Inland Revenue now has responsibility for the Contributions Agency.

My view is that we should not accept these clauses this evening, or the amendments put forward by the Government. It would be more appropriate to delete them from the Bill and for them to be dealt with in another place in the way they should have been dealt with from the start. Up to now the other place has had no chance whatsoever of considering this matter.

10.45 p.m.

Lord Jenkin of Roding : My Lords, I have listened to my noble friend in total fascination. I think he has succeeded, if I may say so with the greatest respect to the Government Front Bench, in blowing their case out of the water. The way the matter was handled in another place--and I need not elaborate on what my noble friend said--and the prevarications which have been put up really makes it wholly inappropriate that this House should now pass this clause in whatever shape it may be. Of course I entirely understand the Minister's desire to try to deal with tax avoidance. It is now perfectly clear that this matter can be dealt with in a Finance Bill.

It has also been clear from the beginning, and indeed it has been part of the Government's case, that this is the first of two stages. The first will deal with social security and the second with PAYE and tax matters. I think my noble friend has made a totally unanswerable case as to why this should all be dealt with together in next year's Finance Bill.

I reinforce what was said by the noble Lord, Lord Goodhart, and by my noble friend. I believe that the Minister is still gravely under-estimating the concern felt particularly by the IT industry but also by others who deliver their services through contractors rather than by direct employment.

One of the more influential bodies who have been making representations call themselves Forum 35. They represent 49 accountancy firms that specialise in advising IT contractors on issues associated with personal service companies. They have sent a note to me in which they say:

    “We accept that it is not the Government's intention that legislation should adversely affect legitimate service companies that were not set up in order to avoid paying their share of taxation. However, we are deeply concerned that the new proposals may have an unintentional detrimental effect on legitimate service companies if they are not fairly and equitably applied to the IT industry where modern business practices make the application of the self-employment tests difficult."

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The noble Lord, Lord McIntosh, made the point about the two workers sitting side by side. If I may say so, he has totally identified the problem that these contractors are going to face if this clause goes through with the amendments now proposed by the Government. Martin Tallett writes:

    “From my personal point of view I will fail the SE tests and were I to attempt to operate under the new IR35 I would not only be liable for the employee's NICs on essentially the whole of my contract but also the employer's NICs."

He goes on to say:

    “From a computer industry point of view we expect that 95 per cent of computer industry contractors will fail the SE tests because we generally go to work, sit in an open plan office and use a terminal all day."

This is the point that has been made about the “snapshot". The Government have taken a “snapshot" of these two characters sitting side by side in front of their screens. One of them may be a full-time employee of the company: the other may be there on a short-term contract for a particular piece of work. That is the difference between the two, We simply have to look at this against the pattern of employment that has developed.

For some years I was the chairman of an insurance company, one of those which prided itself on being at the forefront of introducing information technology into the life insurance business. Again and again we found that the most effective way of dealing with the new matters, new procedures and new processes that had to be introduced was to use the contractors. This had all the advantages of having people there for the short-term burst of activity; and then they were free to move on elsewhere.

It is worse than that. Mr Lewis, another person who has made representations to me, wrote as follows:

    “The irony of this whole situation is that the original press release, on 9th March 1999, stated the Revenue's intentions to prevent the so called 'Friday-to-Monday' abuse".

We all agree with that; that intention is perfectly legitimate. He goes on:

    “This is when an employee could leave a company on a Friday as a normal employee, only to return again on Monday doing exactly the same job, but as an independent consultant employed through his own limited company".

He goes on:

    “The latest proposals"--

these are the revised Inland Revenue proposals--

    “actually allow this to happen, as the onus of paying any tax and NI is down to the independent contractor and not his client/agency. Unscrupulous employers could exploit this loophole, sacking employees on a Friday and allow them to return only if they trade as an independent through a limited company. The employer would not be liable for any PAYE, NI, pensions, redundancy payments or other benefits which go with normal employment".

If there is any substance in that--and there may well be--it seems another reason why the Government must take more time, think this through thoroughly and come up with a scheme at a later stage in a later Bill in order to make sure of things. Avoidance can be attacked without interfering with and destroying

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legitimate businesses. There is a fear in the industry that large numbers will have to go abroad in order to preserve their position.

This is one more example of the Government saying one thing--“We want to encourage e-commerce; we want to encourage private enterprise and entrepreneurs"--and then doing something that seeks to destroy both. We should not allow this clause to pass into the Bill.

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