The OTS rejects ‘look through’ taxation for Personal Service Companies

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A ‘look-through’ system of taxation with the effect of making IR35 “redundant to a degree” has been taken off the table.

The Office of Tax Simplification says it no longer recommends the system because it would not make taxation simpler for small companies. The OTS tabled the look-through in March, on the basis that it could ease the burden on PSCs by income-taxing shareholders on their PSC profits, foregoing their need for corporation tax. But having examined the system, which would have effectively put PSCs under the simpler sole trader regime, the office said it has found that the “cons” outweigh the “pros.”

In fact, once the accounts  (which would still be required for look-through companies)  have been developed, the compliance burden is still “modest.” “The simplification gained by eliminating the need for corporate tax compliance is outweighed by the technical issues that such a process raises” the OTS said. “There would still be a need for an ‘adjustment of profits’ exercise. In addition… look-through potentially damages the funds retained for investment by taxing retained profits at full income tax/NIC rates.”

For these reasons and others, for example look-through would not remove any of the wider compliance obligations of running a company, the system could “discourage entrepreneurs.” “From a tax simplification point of view,” added the OTS, “we would not recommend look-through as a method of simplifying tax for small companies.”

However, another of the office’s March 2016 recommendations made in its review of small company taxation does have the potential to lighten the compliance load on enterprising individuals. The SEPA model, similar to the Freelancer Limited Company as it would be a sole trader structure with liability protection, could be a “useful simplification for those that would otherwise consider incorporation.” The OTS added: “A new trading vehicle does present some potential issues … [but] we do not see any of them as insurmountable and are encouraged by the interest in the SEPA concept”.

As to the question of whether enough people would use SEPA, the evidence indicates that it could be used on “a reasonable scale” or may even “become the norm for unincorporated sole traders.” But the OTS didn’t rubber-stamp it: “While SEPA addresses some of the limited liability/status reasons for incorporating, it doesn’t address the other reasons why people incorporate, including tax incentives, access to allowances and a separate legal identity.” The office concluded: “[But] it could provide a boost to enterprise. Accordingly, we recommend that it should be developed into a formal proposal. While doing so, one would have to address…any impact on the creditor and debt collection markets.”

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