There has been quite a lot of speculation on the internet about the Summer Budget 2015 and how it will affect contractors. Some argue that they will mainly benefit from the changes, other that it’s bad news.
What’s the cause for this confusion? Let’s start by looking at the key announcements.
1. Introducing a new National Living Wage of over £9 an hour by 2020
2. The government will run a surplus in 2019-20
3. The tax-free Personal Allowance will be increased from £10,600 in 2015-16 to £11,000 in April 2016
4. Protecting defence spending
5. Reforming the welfare system to make it more affordable
6. Reforming dividend tax
7. Taking the family home out of Inheritance Tax
8. The amount people with an income of more than £150,000 can pay tax-free into a pension will be reduced
9. The higher rate threshold will increase from £42,385 in 2015-16 to £43,000 in 2016-17
10. Corporation Tax will be cut to 19% in 2017 and 18% in 2020
11. The annual investment allowance will be set at its highest ever permanent level at £200,000
12. The Employment Allowance will increase by a further £1,000 to £3,000
13. The standard rate of Insurance Premium Tax will increase to 9.5%
14. Clamping down on nuisance calls from claims management companies
15. Restricting tax relief for wealthier landlords
16. Ending permanent non-dom status
17. Reforming the way banks are taxed
18.3 million new apprenticeships
19. £30 million of funding for Transport for the North
20. 30 hours of free childcare for 3 and 4 year olds
21. Student maintenance grants will be replaced with loans
22. Road tax will be reformed and the money raised spent on the road network
23. Public sector pay will increase by 1%
24. Making sure individuals and businesses pay what they owe
Okay, that’s a lot of announcements, but don’t worry we’re only going to focus on numbers 6, 10 and 24.
Reforming Dividend Tax
Contractor Dividend Taxes will change in April 2016, increasing taxes for almost all contractors and small business owners.
The existing system of grossing-up dividends will be abolished and replaced with a simple rate of tax on net dividends. The tax bands will be 7.5% for basic rate taxpayers, 32.5% for higher rate taxpayers and 38.1% for additional rate taxpayers. The first £5,000 of dividends will not be subject to the new tax and the previous dividend tax credit basis will disappear.
Contractor Dividend Tax Comparison
Source: Contractor UK.
N.B. The calculations in these tables are subject to change pending the release of detailed guidance in the Finance Bill.
The government hopes that introducing the new tax in the Summer Budget 2015 will reduce the difference in tax paid by individuals working as sole traders or partners versus those operating through limited companies. As the table demonstrates, those who receive more than £75,000 dividend income are hit the hardest by the Summer Budget changes. However, it is interesting to note that those who earn between £30,000-40,000 are hit more than those receiving between £45,000 – 50,000.
To be fair, the current system of tax credits on dividends is over 40 years old and is probably more complex than it needs to be. But is this actually making the tax system fairer? According to ContractorCalculator CEO Dave Chaplin, “This is a cynical ploy by the government that enables it to tap contractors and all small business owners for extra tax without breaching any of its pre-election promises.”
Corporation Tax will be cut to 19% in 2017 and 18% in 2020
Okay, sohe proposed changes to dividend tax will make basically everyone working through a PSC (Personal Service Company) pay higher taxes, but the blow will be softened slightly by the reduction in corporation tax from 20% to 18%. Sadly that won’t come into play until 2017. This is estimated to benefit over 1m businesses in the UK including contractors and freelancers that are operating through their own limited company.
Will these changes drive contractors to search for permanent employment?
Most contractors will be negatively affected by the contractor dividend tax changes, but we doubt that the Summer Budget 2015 will make permanent work any more desirable to contractors. The objective of these changes are to eliminate tax avoidance and the exploitation of previous measures that were put in place to encourage small businesses to take on young or inexperienced staff. The slight reduction in corporation tax will benefit contractors by softening the blog of the reformed dividend tax credit system. Owners of PSCs can currently avoid higher income tax and NI contributions by paying themselves dividend and the changes will make this legitimate tactic less attractive, but it’s unlikely to lead to any significant change in the ratio of permanent and contract employment in the UK.
In fact, a look at the current job market suggests that contract work is increasingly preferable option for working professionals, and more organisations are adjusting their interal structures accordingly.
This is because the mind-set towards professional development is shifting more towards project-based work; the value a person can add to an organisation is evidenced through what projects they have completed and the achievements through that project, rather than the length of their tenure at a given business. The evolution of project-based working patterns has made contracting a more viable career option for professionals who would prefer more varied work and control over their work/life balance. As employee benefits gradually decrease in value (particularly pensions) people are less tied into long service. In our opinion, it is the economic, social and political implication of these trends that are much bigger talking point than the dividend tax reform.
If you are a contractor or freelancer and have any questions in regards to how the budget will affect you feel free to contact us on 0203 206 1900.