Self-employed individuals are vital to any community and economy. Collectively, they are a tax-generating powerhouse. So, what happens to a nation’s economic growth and social programmes when self-employment numbers decrease year-on-year?
OPINION
The economic consequences of depleting self-employment in the UK are stark. Approximately 800,000 people have left self-employment in the UK since lockdowns were imposed by the COVID-19 pandemic. While some older individuals were forced into early retirement, millions globally (and in the UK) took the opposite path, starting businesses for the first time to navigate lockdowns or seek a better work-life balance.
Self-employment appears to have fallen most sharply among those in managerial, director and senior roles (down 30.9% from 811,000 in January to March 2020 to 560,000 in January to March 2022) and those in professional occupations (down 14.8% from 861,000 to 733,000 in the same period).
ONS
However, this entrepreneurial spirit collided head-on with updated IR35 rules, also known as the Off-Payroll legislation, which aims to prevent tax avoidance by contractors who operate through limited companies and the businesses that hire them.
IR35 aimed to level the playing field by ensuring contractor taxes resembled those of salaried employees. However, this came at a cost. Contractors offering similar work received none of the benefits, rights, or perks enjoyed by permanent staff. Instead, umbrella companies, often unregulated, became the funnel for their pay, frequently at a reduced rate with additional fees. In essence, these independent contractors were now highly skilled temps.
For some, the trade-off was worthwhile. The administrative burden shifted, but for others, the ability to set their own rates and work flexibly vanished.
Changes to IR35 legislation in 2021 also placed the responsibility of determining a contractor’s employment status on the businesses hiring them, which critics argue has stifled economic growth in a few ways:
- Reduced access to skilled freelancers: Businesses report finding it harder and riskier to hire contractors due to IR35 uncertainty. This can limit access to specialised skills and hinder business flexibility.
- Discourages freelancers: The added tax burden and complexities of IR35 can disincentivise some from freelancing altogether, reducing the pool of available talent and hindering innovation.
- Increased costs for businesses: The need for status assessments and potentially higher payroll taxes for contractors can increase business costs.
Overall, critics argue that IR35 creates unnecessary bureaucracy and discourages flexible working arrangements, hindering the agility and talent pool that can contribute to economic growth.
Changes to the off-payroll working rules in the UK, namely IR35, had “devastating economic consequences for businesses,” according to a YouGov and IPSE poll of more than 500 companies taken in 2022. Over two in five companies (42%) reported that the IR35 reforms had negative financial implications for their business.
Despite half of UK businesses (49%) stating that they could not achieve their level of growth and outcomes without the help of contractors, a significant number of companies (28%) decreased the number of contracts given to freelancers since the reforms to IR35 in April 2021.
Those British businesses paid the price. Derek Cribb, CEO of IPSE, said at the time of the poll, “While the media, over the past year, has mainly analysed the significant and damaging impact of the reforms on self-employed workers, [our] research shows that the changes to off-payroll working have also hindered their client.”
Inflation going down, but what about innovation?
The UK is seeing some relief on the inflation front. The latest figures from March 2024 show inflation at 3.2%, down from 3.4% the previous month. This is a significant decline from the peak of 11.1% reached in October 2022. While still above the Bank of England’s 2% target, the decrease is attributed not to innovation or greater efficiencies often linked when companies can access a flexible and highly skilled workforce but to falling food prices. However, rising motor fuel costs due to global energy concerns are partially offsetting this trend.
Blanket bans are still hindering economic growth
Blanket bans on self-employed talent in key sectors like banking and financial services are still happening in 2024, according to Freelance Informer sources who wished to remain anonymous. Insurance and financial services companies in particular. This is despite a legislative fix to off-payroll working rules that took effect on 6 April of this year, which should reduce the perceived financial risk of engaging contractors commonly known as contractor blanket bans.
A survey taken in 2021 by IR35 Shield of 3,750 contractors revealed significant disruption caused by the IR35 legislation.
- Blanket bans and offshoring: Nearly half (47%) of contractors reported companies imposing complete bans on their services. Additionally, over half (58%) said firms were moving some or all their work overseas.
- Long-term impact: Half of the respondents believed the changes would cause lasting damage to businesses.
- Cost pressures and contractor loss: Almost half (46%) felt companies would need to offer higher rates to retain contractors. A significant portion (65%) of firms reportedly lost at least half their contractor workforce. Project cancellations were also common, with 35% reported. How does all of this help businesses, economic growth and tax revenues? It didn’t in 2021 and it doesn’t now.
- Umbrella companies and tax risks: A large majority (88%) of contractors working inside IR35 were directed to use umbrella companies, yet only 6% were comfortable with this option. Worryingly, 78% said they wouldn’t be able to identify a tax avoidance scheme.
This hiring fiasco has left genuinely self-employed individuals with limited options. Many are forced to accept fixed-term PAYE roles at lower take-home pay, often paid through recruitment agencies or unregulated umbrella companies. This creates potential risks and additional costs. For example, if the umbrella company does not pay the correct tax to HMRC or the said umbrella vanishes into thin air (it’s happened many times) contractors or recruitment agencies are left with the bill.
That said, when umbrella companies offer excellent service to contractors, ensuring their pay and taxes are paid correctly and on time, the average £40 to £50 monthly fee may come out cheaper than having an accountant complete and submit your accounts to HMRC and Companies House each year.
However, your take-home pay will not be controlled by you, but the hiring company. Your ability to choose your workstyle will also be inhibited, so where is the freedom in this type of freelancing?
Traditional employment v self-employment
Studies by the International Labour Organization (ILO) show the “stability” of traditional employment with benefits like health insurance and unemployment protection comes at a cost.
Self-employed individuals are often drivers of innovation. They have the flexibility to earn more when needed, contributing to tax revenues and consumer spending. Research by the IZA World of Labor highlights how business owners have the independence and incentives to introduce new ideas and technologies to their clients, fostering competition that keeps established firms on their toes. Salaried employees not so much.
The impact extends beyond innovation. Self-employed workers contribute significantly to tax revenue, which fuels economic activity. A 2023 study by the Federation of Small Businesses in the UK found that self-employed individuals contribute a substantial portion of income tax revenue. A decline in their numbers could strain government finances, impacting social welfare programmes.
Furthermore, a shrinking pool of self-employed individuals could exacerbate income inequality. Self-employment often provides opportunities for those with specialised skills to earn a higher income. A 2017 study by the Pew Research Center found that self-employed workers have a higher median income than salaried workers in the United States. If these high-income earners transition to traditional employment, the income gap between the top and bottom earners could widen.
Self-employment can also be more inclusive. It enables flexibility in the job market, generating income through freelance work when traditional employment doesn’t fit a worker’s circumstances (i.e. parent of school-age children, health or mobility issues, location or caring responsibilities).
The power of self-employment: why we need to support it
Self-employment is on the decline, and this trend has significant consequences. While a stable job market might seem positive, it can also stifle innovation, burden social programmes, and create an income gap. More importantly, it can lead to a less happy nation.
Studies show self-employed individuals report higher job satisfaction than traditional employees. For example, a 2023 Pew Research Center report found that 62% of self-employed workers in the United States were extremely or very satisfied with their jobs, compared to just 51% of non-self-employed workers.
Policymakers take note:
To create a booming economy, politicians need to act now. They should foster environments that support self-employment through policies promoting a dynamic and equitable economic future.
Here’s what needs to happen:
- Reduce Barriers to Entry: Streamlining regulations and offering tax breaks can make it easier to start a business.
- Affordable Healthcare: Access to affordable healthcare plans is crucial for self-employed individuals.
- Nurturing Innovation: Educational systems should promote a culture of innovation and risk-taking to encourage entrepreneurial ventures.
Recognising the self-employed as a collective powerhouse
Politicians who understand the importance of self-employment will work to:
- Abolish IR35 and regulate umbrella companies: This would benefit freelancers who genuinely operate as independent businesses.
- See freelancers as a collective force: Self-employed individuals should be recognised as an economic powerhouse, not just a collection of isolated workers.
- Differentiate freelancers and temporary workers: Understanding the difference between those happy with temporary work and those who want to build a business is crucial.
The Time to Act is Now
Supporting self-employment requires action before the next election. Discussions and solutions need to happen now to ensure a future where individuals have the freedom to pursue their dreams and contribute to a thriving economy.
Great article. The politicians who have introduced these disastrous changes to IR35 simply do not understand how freelancing works. I hope the new government is incentivised to addresses these issues as soon as possible. In the meantime the freelancer pool will continue to shrink.
This country isn’t treating self-employed folks fairly. I’m paying a whopping 45% in taxes, lost my personal allowance, and don’t qualify for free childcare or child benefits. Plus, my company doesn’t offer any extra perks. It feels like all my hard-earned money is just disappearing into thin air, without anything coming back to me. Despite working hard for years to give my family a better life, I still feel like we’re struggling. If I had all the tax money back, I could afford to send my kids to private school and get them private healthcare.
Many of my peers have already made the decision to move to another country, and I’m following suit.
Great summation. One of the issue IR35 presented, was the one size fits all approach. If you are a company in a large town or city there are a pool of contractors you can call on. If you are in a remote area the pool is much, much smaller (if it exists). Before IR35 a contractor could claim the expense of travelling and accommodation before tax, now they can’t. The go anywhere, anytime service has been greatly reduced and remote working is not always an option.