The rollout of the IR35 reform to the private sector has been delayed to April 2021 as part of wider measures to safeguard the UK economy against the COVID-19 pandemic. Expert advice is that businesses should continue to prepare and view the extra year as an opportunity to refine your plans. You can read more about the delay, and how to use the extra year to prepare your business, in our article: IR35 Delay: What It Means For Business.
The countdown to the private sector IR35 reform is on. Thousands of limited company contractors – also known as PSCs - are still unaware of the legislation itself, or the impact it could have on them. It’s based entirely on complicated case law and there’s a (convincing) argument that not even HMRC knows how to implement the legislation, making it easy to see why it’s such a murky subject.
So, what exactly is IR35 and what can you do to protect yourself from it?
What is IR35?
Quite literally, IR35 is an abbreviation of ‘intermediaries legislation’. This is a set of tax rules that apply to those that work via an intermediary to provide the end client with a service – a limited company or personal service company (PSC) are the most common instances.
Let’s give some context:
A financial consultant is contracted by BusinessCo. They are engaged and paid through their own limited company. This limited company is the intermediary between the financial consultant and BusinessCo, the client, and means that they aren’t providing their services directly. They have a contract for services, as opposed to a contract of employment, and therefore pay a reduced rate on any income tax and National Insurance Contributions (NICs) owed for the salary they pay themselves. However, they don’t receive employee benefits like holiday or sick pay and must cover their own overheads, like equipment and travel. This tax relief allows them to set aside enough money to pay for said overheads, as well as save for time off and retirement.
The purpose of IR35 is to identify individuals that are abusing the above system to avoid paying tax.
How is my IR35 status determined?
HMRC commissioned a tool called CEST – an acronym for Check Employment Status for Tax – to determine IR35 status, which has been widely used and widely slated. It’s advisable, however, that you shop around when considering your employment status assessment options; you may find it pays to have a manual review done.
There are 3 main points to consider when determining IR35 status:
How much control do you have over your working day? If you have the below in your contract, you could be considered inside IR35:
- Inflexible start and finish times
- Specific days you must work for the client
- Lunch break times and duration
- Specific clauses stating the client has supervision and control over your work.
All of the above usually appear in a contract of employment and can cause you to fail an IR35 test. Contractors have control over when and how they work by definition.
2. Mutuality of Obligation (MOO)
Are you free to choose the jobs you take on? Is there any obligation from either party – the contractor or the client - to complete or provide work on a continuous basis? This is mutuality of obligation, or ‘MOO’. If a contract specifies exclusivity or states obligated hours of work a week at a set rate, then it could be inside IR35.
Genuine contractors are able to take whichever projects they choose from whatever client they wish to work with. They should also be free to turn down work from any given client. HMRC’s CEST tool currently omits MOO, which is a weighty consideration in whether an individual can be classed as a contractor or not. To compensate, make sure the rest of your contract is watertight against Control and Substitution checks as well.
3. Right to substitution
Could the contractor supply a substitute to do their role? This is usually a hypothetical question and doesn’t mean the contractor must literally have a substitute ready.
If you call a plumber to fix a leaking boiler, would you care if it was specifically the plumber you spoke to on the phone that carried out the work, or just someone qualified? This is the right to substitution, and is a good test of if a contractor is genuine - an employee couldn’t send someone else to fill their place for the day at work. Provided another qualified contractor in that profession could in theory be sent in their stead to provide the contracted services, then they would most likely fall outside IR35. However, if the client has specified that they can’t supply a substitute under any circumstance, then they could be in trouble.
What happens if I’m found inside IR35?
If you fail an IR35 test, you can expect to pay around 25% more in tax every year, give or take. This would amount to a huge chunk of net income absent every month. You also still wouldn’t benefit from employment rights or have a contract of employment with your client, so you could face critical financial issues with no real benefits or protections to speak of. It’s important to take the necessary precautions to avoid this situation.
Of course, if you are a genuine professional contractor, freelancer or consultant who is in business on your own account, you shouldn’t have anything to worry about. Read up on how the legislation works and apply best practice. It would also be worth having a defence prepared in case you’re investigated by HRMC; whilst you may know that you’re legitimate, IR35 determinations are notoriously subjective.
How to get ready for the reform
There are steps you can take, no matter where you sit on the supply chain, to make sure you’re ready for the changes; contract and working practices reviews are the first port of call while educating yourself about what the off-payroll rules mean for you is crucial to staying on the right side of the legislation.
While CEST may be recommended by HMRC as the go-to tool for IR35 status determinations, it’s important to remember that there are other options available that are just as valid.
There’s an argument to opt for a ‘manual’ contract review over an automatically generated determination; after all, no matter how thorough the questionnaire, the nuances of certain arrangements could be missed. A contract or working practices review carried out by an IR35 specialist may take longer to receive your determination from, but the results will be far more reliable. You also have direct access to the specialist that carried out the review, meaning that you can ask any questions you may have about the results and how they may affect you.
About the Author
Hannah Robinson is the Digital Marketing Manager at Larsen Howie. Larsen Howie is a provider of specialist insurances and services, including Professional Indemnity cover and IR35 advice, to contractors, freelancers and consultants. The business also leads the way with their specialized IR35 services, with a dedicated in-house team of experts that boast vast, first-hand experience in dealing with all manner of IR35 queries.