The Gig Economy: A Ticking Tax Bomb?

Trust Bloomberg Tax's Premier International Tax offering for the news and guidance to navigate the complex tax treaty networks and business regulations.

By Ben Stupples

In 2009, English singer-songwriter Ed Sheeran played at more than 300 live performances across the U.K. in pubs, bars and even schools. This year, he will play gigs at some of the country’s biggest indoor venues, such as London’s O2 Arena.

Yet regardless of whether he sings to 20 pubgoers or 20,000 screaming fans, this style of irregular work helps to explain the “gig economy,” a labor market at the center of the U.K.'s self-employment tax debate.

Like touring musicians, self-employed individuals in the gig economy operate on a short-term, on-demand basis. While this form of employment may suit some of these individuals’ lifestyles, it doesn’t come with the same benefits as full-time employees, such the national minimum wage. The self-employed do benefit, though, from paying less in employment taxes—known as national insurance contributions, or NICs—than those in full employment.

“It’s not just for tax purposes,” says Patrick Ford, a Manchester-based tax partner at law firm Squire Patton Boggs, on why an increasing number of individuals in the U.K. choose to work on a self-employed basis. “But it is a key consideration that can drive that decision.”

6 Billion Pounds by 2021

Employees make up 85 percent of the U.K.'s workforce, but self-employed individuals have created almost half of the country’s employment growth since 2008, according to the Resolution Foundation think-tank. By 2021, if this trend continues, the foundation’s research indicates the U.K. will lose 6 billion pounds ($7.5 billion) in NICs each year. That represents more than half of the NICs that the U.K.'s tax authority collected on average each month in the 2015-16 tax year, according to data compiled by Bloomberg BNA.

Self-employed individuals pay NICs—which made up 21 percent of the U.K.'s 2015-16 tax receipts—once a year through self-assessed tax returns. Those in full employment, meanwhile, pay NICs each month through their employers, who deduct it automatically from staff wages under the U.K.'s Pay As You Earn, or PAYE, scheme.

Compared to annual returns, it is “far more administratively convenient” for HMRC to collect NICs through PAYE each month, says Stuart Neilson, a Glasgow-based employment lawyer and partner at global law firm Pinsent Masons. “Policing tax” through PAYE “is also much easier as a self-employed person might claim all sorts of costs and expenses for setting up a business, which are deductible,” he adds. “Does HMRC have the resources to check whether that’s correct in every situation?”

An HMRC spokesman did not respond to two emailed requests for comment on the tax authority’s ability to investigate deductible expenses.

Narrowing State Benefits

The lower NIC payments that the self-employed have to make compared to those in full-time work amounts to a subsidy of 1,240 pounds per self-employed person each year, or 5.1 billion pounds in total, according to the Institute for Fiscal Studies.

Some U.K. state benefits, like a basic pension, depend on an individual’s NICs. In the past, the state benefits for someone who’s self-employed or in full employment has reflected the NICs divide—yet that gap narrowed with the government’s new flat-rate pension introduced last year.

Set at 155.65 pounds a week, the U.K.'s new pension scheme applies “equally” to the self-employed and employees, the institute said in its Feb. 7 Green Budget. “The NICs advantage of self-employment over employment was already far bigger than could be justified by any difference in benefit entitlements, and this reform to state pensions has increased the disparity.”

At the Spring Budget, U.K. Chancellor Philip Hammond sought to address the imbalance by increasing Class 2 NICs—applicable to self-employed individuals with annual profits of 8,060 pounds or more—by 2 percent within the next three years. A political backlash saw him scrap the announcement, however, just a week later.

Any further attempts from Her Majesty’s Treasury to create a fairer NIC system will likely be complicated by the sheer range of professions among the self-employed—IT consultants, builders, doctors and plumbers—across the U.K.

Manual labor jobs, mostly in plumbing and construction, make up the largest areas in which self-employed individuals operate in the U.K., according the Resolution Foundation. Since 2009, however, the same research shows that high earning professionals in the health, legal, accounting, and consultancy sectors experienced the highest growth among self-employed individuals.

These highly paid professionals are also more likely to own and managing their own business. On top of wages, that structure allows the individual to pay themselves through dividends—which are taxed at a lower rate than income—and creates further possible tax troubles for HMRC.

The diversity of the U.K.'s self-employed individuals is “problematic,” making it hard for the government to implement tax measures that target them fairly across a range of industries, says Judith Freedman, professor of taxation law at University of Oxford.

“There’s a rising number of self-employed, but people are self-employed for a whole load of reasons, with some who are entrepreneurs and others forced into it as companies don’t want to employ them,” adds Ford. “These issues are becoming more important as there’s a vastly higher number of self-employed people and companies with different types of non-employees.”

London’s Mini Gig Economy

Across the U.K., taxi drivers and couriers make up a small part of the self-employed labor market. In London’s gig economy, though, the transport and delivery sector rose by 72 percent between 2010 and 2016, according to think-tank New Economics Foundation.

A key factor in this growth is the emergence of technology businesses—such as U.S. taxi company Uber Technologies Inc., or U.K. food courier Deliveroo Inc.—that provide online platforms through which the self-employed can find work from their smartphone.

Evident from how Victorian dockworkers once lined up for a day’s work, the gig economy’s on-demand, short-term work isn’t revolutionary. Yet companies’ use of technology to create a platform on which self-employed individuals can quickly find work from their mobile phones has helped to make the gig economy both more attractive to the self-employed and, crucially, to a consumer market.

“Technology platforms and electronics have kicked it off,” says John Whiting, tax director of the U.K.’s Office for Tax Simplification, about the U.K.'s growing gig economy. “In one sense, it’s nothing new, but now the online world facilitates it.”

“What’s amazing is that Deliveroo developed a market that didn’t exist,” says Bill Dodwell, head of U.K. tax policy at accountancy firm Deloitte. “We all sent out for pizza before, but Deliveroo allows a restaurant to sell to you in a way that’s far more economical for them.”

Modern Employment Models

A key attraction to Uber, one of the world’s largest car-service companies, is how much cheaper it is compared to traditional taxi businesses—a ride in Uber’s standard uberX car costs just 1.25 pounds a mile, while London’s minicab tariffs start at 5.8 pounds.

The California-based company often subsidizes customers’ fares to keep their fares competitive. While that strategy costs Uber and contributes to its eye-popping losses, it equally saves NIC costs by employing its drivers on a self-employed basis. Along with handling the administration of NICs of their employees, companies with a full-employment business model have to pay the employer contribution of employer’s NICs to HMRC each month.

But Uber’s employment model is “characteristic” of the private car hire industry, Andrew Byrne, the company’s U.K. head of public policy, told parliament’s work and pensions select committee Feb. 22. In total, Uber has 320,000 drivers across the country, he added.

Worker or Self-Employed?

Uber’s employment model may reflect the U.K.'s private car hire sector, but the company has still faced scrutiny—along with similar companies in the gig economy, like Deliveroo—over whether its drivers are actually self-employed in line with the U.K.'s employment laws.

In U.K. tax law, individuals are either employed or self-employed for tax purposes. Under the U.K.'s employment law, though, there is a third category of “ worker” between the employed and self-employed. Like employees, workers are entitled to certain employment benefits, including the national minimum wage. Yet like the self-employed, they are responsible for the administration and payment of their own NICs to HMRC.

Legal Challenge

Whether the individuals who operate in the gig economy should be legally classed as “self-employed” or “worker” has fueled the U.K.'s employment rights debate.

In October 2016, Uber lost a case before the U.K. employment tribunal over whether it could class two drivers as self-employed—a decision the company has appealed.

Deliveroo, meanwhile, said Feb. 27 it will change its contracts to allow legal challenges from their couriers on employment status following a probe from the U.K.'s Work and Pensions Select Committee, which is carrying out an inquiry on the gig economy.

“The issue that the government and the Treasury face is to what extent jobs of full-time employees are being carried out by a series of part-time and self-employed freelancers, where employment is dressed up as self-employment,” says Dodwell.

But this context excludes assurance of full-time work.

“On the other side of the argument, these companies are not in a position to guarantee 9 a.m. to 5 p.m. employment, so they have an employment model that can respond to fluctuating demand,” adds Neilson about businesses operating in the gig economy.

Taylor Review on Employment

In October 2016, addressing the changes to the U.K.'s labor market, Prime Minister Theresa May commissioned a review of modern employment practices. Led by Matthew Taylor, a former Labor Party strategist and current chief executive officer of the U.K.’s Royal Society of Arts, the six-month review will not make tax recommendations when it’s published later this year. However, Taylor has made it clear that reducing tax costs is a key reason why companies in the U.K. are choosing certain employment models.

“We have a system now of employment regulation and taxation, and that system is not going to be pulled up by the roots, and we’re going to need to try and adapt that system to make it work in the face of new business model,” Taylor said to the Work and Pensions Select Committee March 30.

“I want to get to a situation where businesses choose the business model they have because it is productive, innovative and provides great service to customers, and not because it gives them tax advantages and allows them to circumvent employment rules.”

Uber Business Model

On the subject of Uber’s business model, a company spokesman told Bloomberg BNA in a March 31 email that the “main benefit” is allowing drivers, who do not have set shifts and minimum hours, to log in and out of the company’s app when they want.

“Private hire and taxi drivers in the UK have historically always been self employed, as many combine driving with other sources of income—this is why Uber adopted this model,” the spokesman added. “The overwhelming majority of drivers that use the Uber app want to keep the freedom and flexibility that being self employed brings.”

In a April 3 emailed statement to Bloomberg BNA, a Deliveroo spokeswoman similarly highlighted the benefits of flexible working hours, allowing their couriers to fit in other commitments, such as studying or running their own business.

“We provide riders with the information they need to choose when best to work with us,” the spokeswoman added. “Riders then use that information to choose when to work and for how many or few hours.”

Possible Government Reforms

Following the publication of Taylor’s review, which also seeks to clarify the definition of the worker status and reduce the complexity of the U.K.'s employment and tax laws, the government will look again at possible reforms to the U.K.'s labor market.

Reducing the existing differences in tax treatment between the self-employed and those who are employed “remains the right thing to do,” Hammond said March 15 when he announced the reversal of his decision to increase NICs for the self-employed.

While technology has changed the nature of available work for self-employed individuals, it may equally provide an opportunity for HMRC to collect taxes, according to Judith Freedman, who has written discussion papers on the taxation of the self-employed.

“Technology offers opportunities to collect tax in various ways,” she says, citing the government’s plans to digitize the U.K.'s tax system by 2020. “From a tax point of view, we care about the tax collection, and companies like Uber could easily collect it.”

Final Solutions or Further Complications?

By highlighting the tax treatments of the employed and self-employed, one consequence of the government’s Spring Budget U-turn may be a rapid rise in the number of self-employed individuals, Paul Johnson, director of the Institute for Fiscal Studies, said at a March 20 debate on employment taxes organized by the London-based think-tank and the Chartered Institute of Taxation.

Hammond’s U-turn will create “more problems down the line,” Johnson added.

“The government was gunning for the self-employed who choose” to be so “for tax reasons, but they can’t clearly distinguish who those people are,” says Ford. “In the near term, it just goes to show how hard it is to change anything from the status quo.”

A spokesman for Her Majesty’s Treasury did not respond to a phone call and email requesting comment for this article.

To contact the reporter on this story: Ben Stupples in London at bstupples@bna.com

To contact the editor responsible for this story: Penny Sukhraj in London at psukhraj@bna.com

Copyright © 2017 The Bureau of National Affairs, Inc. All Rights Reserved.

Request International Tax