Rise of the self-employed could cost UK £3.5bn a year

Rapid growth in self-employment could cost the Treasury an additional £3.5 billion a year by 2021/22 because of generous tax breaks, a new report has warned.

The report from the Institute for Fiscal Studies calls for a "level playing field" on tax and national insurance, so that self-employed people and company owner-managers pay at the same rates as employed workers.

At present, the tax paid on earnings of £40,000 for an employee is £3,442 higher than for a self-employed worker and £4,502 for an owner-manager. On pay of £100,000, the gap swells to £7,365 and £8,035 respectively.

The IFS described the disparity as "costly, inefficient and unfair", arguing that it encourages people to register themselves as a company rather than work as an employee.

With the growth in the so-called "gig economy", which sees taxi drivers and delivery men booked through apps such as Uber or Deliveroo classed as self-employed, the proportion of people who work for themselves, currently 15%, is expected to grow over coming years.

The IFS said 39% of growth in jobs over the past eight years has come from the self-employed and owner-managers, meaning an increasing proportion of Britain's 31 million-strong workforce are subject to more favourable tax treatment. Self-employed workers pay a lower rate of National Insurance contributions (NIC) and are not subject to employer NICs, while owner-managers can reduce liabilities by methods like paying themselves in dividends or capital gains.

The traditional view that self-employed people are entitled to lower tax rates because they have fewer employment rights is no longer justified, said the IFS.

"The self-employed get a tax advantage equal to an average of £1,240 per person per year as a result of lower NICs relative to employees," said the report. "This cannot be justified by what are now only very slight differences in benefit entitlements.

"The self-employed pay £3 billion a year in NICs. If they were treated just the same as employees they would pay £8 billion a year."

And it said that tax breaks designed to encourage entrepreneurship "are poorly targeted, inappropriately distort choices and create opportunities for avoidance".

The report, which will form a chapter in next week's annual IFS Green Budget, called for income tax and national insurance rates to be equalised across all types of workers. But it said that money invested in a business should be deducted from taxable income, creating an incentive to invest.

Report co-author Helen Miller, an associate director at the IFS, said: "Changes in working patterns, including those related to the gig economy, make tackling current differences all the more important both to protect the public purse and to avoid giving incentives for big companies to treat people as self-employed rather than as employees."

A Treasury spokesman said: "People are working in new and innovative ways, and while that brings exciting opportunities and benefits for individuals and the British economy, the Government recognises that the tax system needs to keep pace.

"That is why the Chancellor announced at the Autumn Statement that the Government would consider how it can ensure the system remains fair, simple and effective for everyone.

"We welcome the IFS's contribution to this debate."