Six months since IR35 became more widely enforceable, I thought I’d revisit it, reminding ourselves of the basics of it and what it’s coming into force means for the contractor.
What is IR35: It is a tax legislation introduced in HMRC’s press release issue 35 geared towards countering a tax-avoidance scheme by contractors. IR35 was released in 1999 and became law via the Finance Act 2000
Background: Prior to the introduction of IR35, professionals were able to offer their services as contractors through a limited company or partnerships, while the reality of the engagement was one of an employee’s e.g. they worked ‘for’ the same organisation continuoulsy and if the contractor were unable to attend work, the work wouldn’t get done as they were a sole worker of the limited company.
In addition, company dividends were shared (with salary kept to a minimum, in most cases to annual personal allowance levels and hence no tax payable) amongst shareholders who were usually family members, so no national insurance contributions were being made on the dividends.
This in effect meant individuals were paying the least tax possible (and in most cases none) and no NIC contributions. This arrangement was also beneficial to organisations who engaged the services of the consultant/contractors through their limited companies as it meant employers’ on-cost (employers’ pension and national insurance contributions were not payable nor were they required to make sick pay or provide proffer benefits like paid leave).
These structures were however detrimental to HMRC as it meant revenue was being lost via unpaid taxes and NIC contributions. HMRC saw these arrangements/set-ups as tax avoidance schemes, albeit within the confines of the law, with structures whose real substance was one of employees enjoying the tax benefits of corporate structures
IR35 Timeline: There was a huge opposition to this legislation including a judicial review and appeal of the High Court’s decision in 2001 (both lost in favour of Inland Revenue). Subsequent to this several discussion groups and forum were set up; and iterations/refinements of the legislation were made.
In 2016, the legislation became enforceable in the public sector. This meant the public sector employers (or “clients” of the one-man limited companies) became responsible for checking whether the consultants were indeed that or whether they were employees; and if found to be employees, the public sector client would be responsible for enforcing PAYE and deducting tax and NIC at source.
In April 2021, after several deferments (first from 2018 to 2020 and then from April 2020 to April 2021, because of the pandemic) IR35 became enforceable in the private sector withprivate sector organisations (except small companies*) being responsible for checking and enforcing PAYE if contractors are found to be employees.
*Small Companies is defined as one which within any 12-month period meets any two of the below:
- Turnover is no more than £10.2m
- Balance sheet total is no more than £5.1m
- Employs no more than 50 employees
How it impacts the contractor/one-man limited company worker:
If your limited company’s client is a public sector company or medium/large private sector company:
They are responsible for determining your employment status and you;
- Should obtain such determination from them and the rationale for such determination
- Can dispute the determination if you don’t agree with it
If, however your limited company’s client is a small sized private sector company, you are responsible for determining the employment status that will underpin the engagement i.e. whether your limited company’s worker will be paid off-payroll or through payroll. You can check the employment status using HMRC tool
Potential Negative impact: One of the disadvantages of this legislation is that organisations who want to keep their cost low, will no longer engage contractors who fall inside IR35 i.e. those who have to be included on their payroll; which unfortunately means less contractors to engage, which will inadvertently push up the fees of those who fall outside of IR35 (with demand now being more than supply).
Only time will tell what the overall impact of IR35 is; six months on, it is still a bit early to say, but as with all other new tax rules, this is likely to eventually be absorbed and become the norm, with all settled into working within its confines.
As usual though, while I don’t advocate for tax avoidance (DEFINITELY A NO NO!) let’s still aim to remain tax efficient. However, don’t get caught out, ensure you know your status and work within its confines.