Innovate UK hit with £36m unpaid tax bill over IR35 contractor employment status errors

Non-departmental funding body UK Research and Innovation (UKRI) must pay HM Revenue & Customs (HMRC) £36m in back-dated tax after a review of its IR35 compliance procedures uncovered historic errors in how it classified the employment status of some of its contractors.

UKRI is a funding body sponsored by the Department for Science, Innovation and Technology (DSIT) that is responsible for supporting the work of nine different research councils, including the UK’s national innovation agency, Innovate UK.

The organisation’s Annual Report and Accounts for the 2021-2022 financial year confirm that Innovate UK, specifically, has fallen foul of HMRC’s IR35 tax avoidance legislation after a review revealed errors in its classification of its monitoring and assessment officers.

As a result, the organisation now owes HMRC £36m in unpaid income tax and National Insurance Contributions (NICs) for the tax years spanning 2018-2019 to 2021-2022, its accounts confirmed.

“Following a review of the IR35 status of monitoring and assessment officers engaged by Innovate UK, UKRI has concluded that some of these monitoring and assessment officers should have been considered to be inside the scope of [the] IR35 regulations, and thus subject to income tax and national insurance contributions (NICs),” the document stated.  

The errors occurred following the April 2017 reform of how the IR35 rules work in the public sector, which marked the end of contractors being able to decide for themselves whether the work they do and how it is performed means they should be taxed in the same way as salaried workers (inside IR35) or off-payroll employees (outside IR35).

From April 2017 onwards, public sector end-hirers assumed responsibility for determining if the contractors they engage should be classified as working inside or outside IR35.

“UKRI has estimated a liability related to these income tax and national insurance contributions for the period to 2018-2019 to 2021-22…it is expected that this liability will be settled in 2022-2023.”

The estimated liability is confirmed elsewhere in the report as totaling £36m, with the organisation now among a handful of public sector organisations to have found themselves on the receiving end of a sizeable unpaid tax demand from HMRC in the wake of the 2017 IR35 reforms.

Among them is the Department for Work and Pensions (DWP), which ended up owing £87.9m in unpaid tax to HMRC, and the Department for Environment, Food and Rural Affairs (Defra) which had a similar-sized tax bill of £86.5m.

Computer Weekly contacted UKRI for comment on this story, as well as insight into how it plans to ensure its compliance with the IR35 legislation in future, but was directed to the organisation’s annual report for its full comment on the situation.

Meanwhile, a HMRC spokesperson said it cannot comment on specific organisations and their approach to IR35 compliance, but provided Computer Weekly with the following statement: “The off-payroll working rules ensure that people who work like employees, but through their own limited company, are taxed like employees, creating a level playing field with other workers.”

Dave Chaplin, CEO of IR35 compliance firm, IR35 Shield, told Computer Weekly the UKRI case highlights the difficulties IR35 puts in the way of public and private sector organisations that rely on “frictionless access to talent” to thrive and grow.  

“UKRI is supposed to be helping firms to innovate to ensure that the UK can compete and succeed on a global stage – to do that, the likes of Innovate need frictionless access to the talent they need when they need it, without risk. It is therefore somewhat ironic to learn that the very arm of the UK that is funded by the taxpayer to promote UK growth is being hit with a significant IR35 tax bill,” he said.

“IR35 and its newer version, off-payroll, is strangling the UK economy [and] not helping it to thrive. The Tories purport to be the party and government of business, but the punitive off-payroll working rules are causing untold damage and hitting the self-employed and those who want to hire them hard.”

He added: “Whilst the Tory message to the world may be that the UK is open for business, the underlying message should be that HMRC will club you with a big tax bill if you try to engage with the self-employed to fuel growth.”

News of UKRI’s unpaid IR35 bill also comes several weeks after HMRC confirmed that it could have legislative changes introduced in time for April 2024 that would stop it over-collecting tax in IR35 non-compliance cases.

As previously detailed by Computer Weekly, HMRC has come under fire in recent years over the issues, which originates from the fact that when calculating how much tax a non-compliant organisation must pay, HMRC fails to take into account the corporation and dividend tax the contractors engaged by these entities have already paid.

In such situations, the affected contractors are entitled to claim back any tax they have already paid, and HMRC has a  notification process in place to alert them that they are due a refund.

Computer Weekly understands that if UKRI settle before April 2024, the organisation will pay the entire £36m bill and HMRC will then have to set about notifying contractors that they are entitled to a full tax refund.