The real effects of the government's decision to implement the controversial IR35 measures, which will ensure that personal service companies pay tax and National Insurance contributions, might not be realised for at least three years, and further changes to the legislation are likely, according to tax specialists. The IR35 legislation takes effect this month and will affect individuals providing personal services through an intermediary who do not pass the government's self-employment tests. 'IR35 is a huge sea-change in the UK tax system,' said ICAEW Tax Faculty senior technical manager Francesca Lagerberg. 'It's going to affect how contract workers negotiate contracts in the future, how they structure their organisations and it's going to be very important for them just to know that they may have obligations that they previously didn't have.'

'Problems with the legislation could arise in 2003,' PwC tax partner John Whiting believes. Contract workers could find that they have not charged enough money in 2000/01 to cover the costs of their PAYE/NIC charges. 'But by that point, three years down the line, it will be too late to recover the money,' he warns. But the Professional Contractors Group is concerned by the effect IR35 has had, even before it has been implemented. 'It has created a great deal of uncertainty in the marketplace at a time when the one thing small business needs is certainty,' said spokesperson Susie Hughes. 'People are already moving overseas, winding up their businesses and not renewing contracts. 'The e-commerce revolution is driven by the very people that the government is trying to tax out of business. And by the government's own estimation, IR35 is going to close down 66,000 of these small, cutting-edge businesses,' she added. Ernst & Young PAYE/NIC director Alastair Kendrick said that a company's earnings losses would be dependent on how aggressively it had been exploiting the current rules. Estimates of losses were 'within the region of 20%-25%'. Lagerberg said that tax advisors' workload dealing with IR35-affected companies was 'absolutely terrifying and obviously impractical, especially with the implications there will be for getting it wrong'. Companies that fail to operate the right system would be charged 'significant penalties', Kendrick added.