The government is soft-pedalling over proposed legislation aimed at cracking down on people who hire themselves out through their own companies after heated claims that the measures would do immense harm to thousands of small businesses.

The proposals are being seen as an attack on the Information Technology industry, where many people operate as "personal service companies". For example, a computer software programmer might set up a company called "Software Solutions" through which he markets his services.

Determined to stamp out phoney companies

If the government's plans were introduced, anyone working in this way would become subject to income tax and National Insurance contributions as if they were the client's employee.

The UK Chancellor, Gordon Brown, announced in the Budget in March that he would be clamping down on people who abused the system by leaving work as an employee on Friday and returning to do the same job on Monday as a one-man company.

His main reason was not so much that they were thereby able to trim their tax liability but that the practice was short-changing the National Insurance fund - the pot of money available to pay state pensions - to the tune of hundreds of millions of pounds.

Pensions worry

This is unacceptable to the government at a time when there are already grave concerns about whether there will be enough money to pay state pensions in the coming decades.

But complaints have poured in from all sides, saying the proposals are badly thought-out and if implemented would have a detrimental effect on most employers, and serious consequences for many businesses in the IT and construction sectors.

Dawn Primarolo: As Paymaster General is responsible for the tax changes

John Whiting, tax specialist at Pricewaterhouse Coopers, has been following closely the representations made to the minister responsible, the Paymaster General, Dawn Primarolo, which include a joint attack from the Chartered Institute of Taxation, the Institute of Chartered Accountants and the Law Society.

He said: "The government has demonstrated it is very determined, so something will certainly happen. But so far we don't know the shape of it."

The Chancellor has claimed that workers are being forced out of employment, losing their employment rights and pensions benefits, but critics say he is proposing to use a sledgehammer to crack a nut.

There are many reasons why someone might form their own company. Many small businesses start as one person and go on to become thriving employers. Significantly, operating as a personal service company gives them flexibility, and a healthy economy needs a flexible workforce.

Tax experts have said the proposals could mean thousands more workers would be affected by employee-related legislation such as the working time rules. They say this could have a beneficial effect on the lifestyles of some of them, but at a huge cost to the employers.

Deadline approaching

Opponents to the scheme are worried that, until now, there has been too little consultation, while the government intends to make its proposals law in April next year.

John Whiting said that if the plans were not changed, many people operating as personal service companies - among the most flexible people in the workforce - could simply move abroad.

He said the Treasury was expected to issue a consultation document within the next few days. "But if it doesn't appear now, it will probably be September before there is any consultation."

The Treasury is rethinking its plans in the light of the strength of calls for the strategy to be better targeted, but it is keeping everyone guessing about how it might find another way to achieve its aims.