AI's Ideal Tax for UK Contractors
Setting the scene
The UK’s self-employed face a patchwork of tax rules that have evolved over decades rather than being designed as a single, coherent system. Contractors must navigate Self Assessment, payments on account, Class 2 and Class 4 National Insurance contributions, VAT registration thresholds, and off-payroll working rules shaped by IR35. To cut through that complexity, we asked AI a simple but provocative question: if the UK economy could start from scratch, what would a clear, fair and growth-friendly tax system for contractors look like? The answers highlight where the current system works against flexibility, entrepreneurship and long-term growth and what a more modern approach could prioritise instead.
Where we are now
Most self employed individuals report annually through Self Assessment with mid-year payments on account that can strain cash flow. National Insurance arrives in separate classes, complicating forecasting. VAT registration kicks in above a threshold that can discourage growth near the limit, while Flat Rate options offer relief but add another decision point. Off-payroll rules aim to restrict disguised employment, yet status assessments are complex for both clients and contractors. Making Tax Digital is bringing quarterly updates, but it does not by itself simplify liabilities. Construction specialists face the CIS overlay. The net effect is administrative friction, uneven cash timing and uncertainty that deters investment in skills and tools.
A clean-sheet model
A restart would merge Income Tax and NICs into a single Personal Earnings Levy with clear bands and a higher primary threshold to protect low and variable incomes. Payments would be smoothed monthly through a Real-Time Profit Account that draws from linked business bank feeds and a standardised expense allowance, reducing spikes tied to payments on account. Quarterly true-ups would reconcile actuals without penalties for reasonable estimates, with an annual final return for adjustments. VAT would keep a threshold but taper entry gradually to avoid the cliff-edge effect, letting firms grow without artificial caps. Status rules would be replaced by a bright-line test combining control, substitution and financial risk, applied once per engagement with safe harbours for genuine project work.
How it would work in practice
Contractors would operate a single digital account that calculates the levy in real time. Bank transactions would categorise against a default expense deduction or actual costs for those who opt in, reducing compliance for smaller trades while preserving accuracy for larger ones. The levy would present a monthly suggested payment based on recent profits, with the option to accept the figure or override when large invoices or gaps occur. If profits dip below the threshold, payments pause automatically and carry forward. VAT would phase in through a sliding scale and display a live effective rate so pricing stays transparent. A unified dispute and ruling service would issue binding decisions on status within days, giving clients and contractors certainty before projects commence rather than after enquiries open. Penalties would focus on repeated non-compliance, not first-time errors, and interest would reflect the Bank Rate plus a small margin to keep incentives aligned without punitive shocks.
What changes from today
Administrative overhead falls because one levy replaces Income Tax and NICs and the software layer eliminates duplicate entries. Cash flow becomes more predictable by swapping payments on account for monthly smoothing with quarterly reconciliations. Growth distortions ease as VAT phases in gradually and status certainty arrives earlier, reducing the spectre of retrospective liabilities that currently shadow IR35 decisions. Crucially, the model treats contractors as businesses with variable income and aligns obligations to when money is actually earned and received, not to rigid calendar points.
Transitional path
If implemented, migration would stage over two years. Year one would introduce the Real-Time Profit Account alongside current rules, letting contractors opt in and benchmark outcomes. Year two would consolidate the levy and remove payments on account, with automatic crediting of prior-year overpayments. Guidance, helplines and template contracts aligned to the bright-line status test would support adoption. The goal is practical simplicity without reducing overall tax fairness or the revenue base.
Summary
Starting from a clean slate, the AI’s model suggests a simpler system with fewer moving parts, smoother cash flow and earlier certainty on tax status. By aligning payments more closely to real-time earnings and reducing cliff edges such as VAT registration, it aims to better reflect how contractors actually work today. Do these ideas address the real pressure points in the current system, or would they introduce new challenges in practice? We’re interested in your views on whether this kind of approach would genuinely make contracting easier and fairer.
