Major IT projects will come in over-budget because IT departments are not considering the effect that the IR35 tax reforms will have on contractor rates, a City law firm has warned.
IR35 is expected to push up IT project work costs by between 10% and 25% per contractor, as workers attempt to recoup lost income through higher rates.
Employers are likely be out of pocket whatever the results of the legal challenge to the tax by the Professional Contractors Group (PCG), said Kevin Barrow, partner at law firm Tarlo Lyons.
"Major users are rolling out IT projects thinking their costs for the roll-out are fixed. People are not factoring in the increase in salary demands from contractors," he said.
Members of the Computing Services & Software Association (CSSA) have reported a 10% rise in contractor rates since IR35 was introduced in April. They expect rates to go up another 10% within the next six to nine months.
"Some employers are aware of the extra costs of IR35 and have been including the costs in their budgets. Other organisations need to budget IR35 into the cost of their projects," said CSSA policy officer Tim Conway.
The legal challenge by the Professional Contractors Group could only make the matter worse, said Barrow.
The group has won leave to apply for a judicial review into the tax, which it claims breaches competition law and the Human Rights Act.
"If they do win I think the Government could get much nastier," said Barrow.
A defeat could force the Inland Revenue to use its existing powers to deduct tax and national insurance directly from contractors' pay.
This would significantly increase costs for employers, said Barrow. "End-users will be much better off if IR35 stays in place," he said.
But a defeat for the contractors could also be unwelcome news for employers. It would give the Inland Revenue the green light for an aggressive clampdown on contractors which could push rates up further as IT specialists try to recoup their losses, said Barrow.
The PCG argues that IR35 penalises contractors, in breach of European competition law, restricts the free movement of employees, and amounts to illegal confiscation of property under the Human Rights Act. A court hearing is expected in February 2001.