What actually is IR35?
In short, it is anti avoidance tax legislation which has been put in place. It affects individuals who receive payments via an intermediary (meaning a go between) company, such as where the individual has set up their own limited company to pay themselves. If the limited company was removed, the individual would be / have been an employee if paid directly by the end user client.
Historically it was more advantageous from a tax position to use a limited company (or third party company), as the owners could choose between paying themselves dividends instead of salary (and therefore makes a saving on national insurance contributions and a lower income tax liability). In addition they could set off expenses against tax (think claiming part of the utility bills for working from home). The director could be paid by salary and dividends, and pay dividends to family members set up as directors. It meant the State was losing a lot of money in tax.
Change is coming!
From April 2021 big change is coming! It will be the end user client’s responsibility, not the contractor’s limited company’s responsibility, to deal with tax deductions. In other words, this responsibility shifts to the main client (end user).
If the end user client believes the contractor providing the services would be an employee, from April 2021, the client will be responsible for deducting tax and NIC from all payments made to the limited company.
If they don’t, (and this is the sting) it is the end user client who will be liable to the HMRC.
Given this substantial impact, we predict most end user clients will take caution and deduct employee rate tax (income tax) and NIC to avoid getting caught by the HMRC.
In short, it will increase the HMRC’s pot and the genuine independent will contractors lose out.
Who applies it?
The new IR35 rules apply where any organisation (nb you will see this will apply to medium or large businesses) meets two of three of the following:
- Annual turnover of the business is more than £10.2 million (nb this will likely change each year);
- The balance sheet total is over £5.1 million;
- They have more than 50 employees.
So if the contractor works solely for one client, for example they work a normal working week, and really the contract has just set up the limited company for tax purposes, then it is understandable why the HMRC have done this. The challenge is for the truly independent contractors who work for several clients.
What factors are taken into account?
The end user client will make the assessment and take a number of factors into account, which include looking at:
- Control and the degree of control the client has over the contractor. This means looking at what work is completed, how the work is completed, where the work is completed etc. The greater the level of control the client has over the contractor, the more likely the contractor will be viewed as an employee.
- Financial risk – does the contractor maintain financial risk for the work, do they provide their own insurance for the work etc. The more financial risk held by the contractor, the less likely it will indicate an employment status. On the other hand, if the fee is fixed or based on the time the contractor spends with the client then it could shift the assessment more towards an employment status.
- Integration – is the contractor incorporated into the end user client’s organisation, such as being included on their internal communications (e.g. phone list), does the contractor have a client based email, are they are on organisational charts, wear their uniform, provided with equipment to use by the client? This all points towards an employee situation and status. If the contractor on the other hand, has many clients and generally provides their own equipment, it will indicate more towards a truly independent status as a contractor and not falling within the IR35 scheme.
- Substitution – where the contractor is unable to attend and perform the services, can they send a substitute to do the work in their place. If the client does not permit a substitute then that will be viewed more as an employment status.
What can the contractor do?
Not a lot!
There is a right of challenge for the contractor but it is limited. The client is required to complete a Status Determination Statement which sets out their reasons for determining the contractor’s status. They have to take reasonable care when conducting their assessment. This should also be completed before the first deduction under IR35 is made. The client must allow the contractor (should they wish to) to challenge their assessment and they should have a clear procedure for doing so.
However (and yes this is the ‘but’), as long as the contractor is given the opportunity to change the client’s assessment, it is still that client’s decision. There is no legal mechanism at all to challenge this; so no right of challenge through the courts or the HMRC. The answer being if the contractor doesn’t like it then they can move to another client. Harsh indeed for those genuine independent contractors.
Is there help anywhere?
Sort of … The HMRC provide a quiz tool on their website (Check Employment Status for Tax ‘CEST’) so contractors can check employment status. However, it will not always give a clear status and the client may still assess the contractor as having employment status for the IR35 scheme to apply.
