In April 2021 new IR35 legislation was rolled out across the private sector. The main provision of IR35 is for the purposes of ensuring that contractors pay the right amount of tax, by defining if a person is a genuine contractor rather than a ‘disguised’ employee.
The key IR35 change after the 6th of April 2021 is that it will now be the responsibility of the client rather than the contractor to define the person's IR35 status. After this date, the client will be liable for any penalties incurred for incorrectly defining a contractor's status.
Working in partnership with you, we identify different options that you can take (e.g., should certain workers be classified as In or Out), provide compliant solutions and pinpoint areas to become cost-effective in the wake of the change.
With a process focussed on assessment, definition and engagement, we can thoroughly review all work processes to provide a clear path of recommendations from the inside and outside.
We’ll be looking at key elements of IR35 and specific changes you should know about, as well as how it impacts contractors within key industries across the UK and abroad.
KEY ELEMENTS OF IR35
What is IR35?
In the simplest definition of the term, IR35 is a tax law that aims to prevent tax avoidance by contractors who are effectively employees but are treated as self-employed.
When a contractor works through an intermediary, such as an LLC, they are considered to be working indirectly for the client. The intermediary is responsible for paying the contractor's taxes, but the contractor is still responsible for their own self-employment taxes.
The IR35 legislation requires the client to determine whether the contractor is inside or outside of IR35. If the contractor is inside IR35, they will be treated as an employee and will be taxed accordingly. If the contractor is outside IR35, they will be treated as self-employed and will be responsible for their own taxes.
The designation process is often complicated and can be confusing for contractors and clients alike. There are a number of factors that the client must consider when making the determination, including the contractor's work arrangements, the type of work they do, and the level of control they have over their work.
The IR35 legislation has had a significant impact on the way that contractors work in the UK. Many contractors have been forced to change their working arrangements in order to comply with the law. This has led to a number of problems, including increased costs for contractors, decreased flexibility for contractors, and a loss of control for contractors.
Overall, the IR35 legislation has been a complex and controversial piece of legislation. It has had a significant impact on the way that contractors work in the UK, and it is likely to continue to be a source of debate and controversy for many years to come.
What Does IR35 Mean for Employers?
IR35 rules create a challenge for employers, because they have to take on new responsibilities that they did not choose or expect.
Before, the contractor was in charge of their own taxes and National Insurance. For example, if a large business hires a contractor, it assumes that the contractor will sort out their own tax matters according to HMRC’s standards.
But now, the employer has to determine whether the contractor should be taxed as an employee or not, based on how they work for the business. This may seem simple, but it is not straightforward for large businesses that hire thousands of contractors. They have to check each contractor’s status thoroughly and follow the rules. This means they have to create new jobs or hire experts to do the work.
Many employers find this process complicated and would rather consider other options than hiring contractors. This is causing some uncertainty for contractors across the UK.
What Does IR35 Mean for Contractors?
IR35 is a tax legislation that aims to prevent tax avoidance by contractors who work through intermediaries, such as limited companies. IR35 determines whether a contractor is an employee or a self-employed person for tax purposes.
According to the new IR35 rules, the client is responsible for assessing the contractor’s employment status and deducting the appropriate taxes and National Insurance contributions from their payments. This means that contractors who are deemed to be employees will pay more Income Tax and National Insurance than before, while their Corporation Tax will be reduced.
Therefore, contractors should check their contracts carefully and use the Check Employment Status for Tax Tool (CEST) provided by HMRC to see if they are inside or outside IR35. This will help them avoid any disputes or penalties from HMRC.
The problem is that IR35 is not clear-cut and depends on various factors, such as the level of control, substitution and mutuality of obligation between the contractor and the client. These factors can be hard to prove or disprove, especially when there is no written contract or clear terms of engagement.
This can lead to inconsistent and unfair outcomes for contractors who do similar work for different clients. For example, a urologist (George Mantides Ltd v HMRC) who worked on a locum basis for two NHS Trusts was found to be inside IR35 for one trust and outside IR35 for another trust, even though he did the same job in both places. He had to pay a large amount of back taxes and penalties for being non-compliant.
This shows how important it is for contractors to have clear and accurate contracts that reflect their true working arrangements and status. Otherwise, they may face the risk of being challenged by HMRC and losing money and reputation.
Will IR35 affect your business?
If you operate in the private sector and a contractor is providing their services to you as a PSC then they will be affected by IR35 rules. Contractors operating through an umbrella company will be out of scope - although it is worth checking rather than assuming it will be ok. While the crux of IR35 legislation sees responsibility for tax status deductions move to the client-side, there are several ways businesses may be affected.
Empiric’s range of solutions provide private sector businesses with different cost-effective options to ensure that they are fully IR35 compliant.
How to Be IR35 Compliant as a Business, Contractor or Agency
To be IR35 compliant, you need to understand the roles and responsibilities of different parties involved in the contracting process: the business, the contractor and the agency.
The business is the end client who hires the contractor for a specific project or service. The business is responsible for assessing the contractor’s employment status and issuing a Status Determination Statement (SDS) that states whether the contractor is inside or outside IR35. The business also has to pay the appropriate taxes and National Insurance contributions to HMRC if the contractor is inside IR35.
The contractor is the individual who provides the work or service to the business through an intermediary, such as a limited company. The contractor has to provide accurate and transparent information about their working arrangements and income to the business and HMRC. The contractor also has to pay their own taxes and National Insurance contributions if they are outside IR35.
The agency is the intermediary that facilitates the work or service between the business and the contractor. The agency has to comply with the SDS issued by the business and deduct the relevant taxes and National Insurance contributions from the contractor’s payments if they are inside IR35. The agency then pays the contractor their net income, either as salary or dividend.
If you are unsure about how to be IR35 compliant and want to avoid any problems with HMRC, Empiric offers IR35 solutions for businesses and individuals.
How to Determine Your IR35 Status
One of the most important aspects of IR35 is to know whether you are inside or outside IR35, as this will affect your tax liabilities and rights.
Here is a simple way to think about your IR35 status:
Inside IR35 - You are inside IR35 if your working arrangements and contract are similar to those of an employee of the business that hires you. This means that the business has control over how, when and where you work, and you have to follow their rules and policies. You also have to work exclusively for the business and cannot easily terminate or substitute your contract.
Outside IR35 - You are outside IR35 if your working arrangements and contract are different from those of an employee of the business that hires you. This means that you have autonomy and flexibility over how, when and where you work, and you can set your own terms and conditions. You also have the right to work for other clients and can easily terminate or substitute your contract.
How IR35 Works in the Public Sector
In the public sector, the responsibility for determining the contractor’s tax status has shifted from the contractor to the public sector body that hires them. The public sector body has to use the Check Employment Status for Tax Tool (CEST) provided by HMRC to assess whether the contractor is inside or outside IR35. If the contractor is inside IR35, the public sector body has to deduct the appropriate taxes and National Insurance contributions from their payments and pay them to HMRC.
How IR35 Works in the Private Sector
Since 2020, private companies that hire contractors are responsible for determining their tax status. They must use the Check Employment Status for Tax Tool (CEST) provided by HMRC to assess whether the contractor falls inside or outside IR35. The company must also issue a Status Determination Statement (SDS) stating the contractor’s status and the reasons for it. If the contractor falls inside IR35, the company must pay the appropriate taxes and National Insurance contributions to HMRC.
This change means that private companies bear more risk and liability for errors or disputes regarding the contractor’s status. As a result, they need more resources and staff to ensure compliance and accuracy.
To reduce your risk and liability, you may want to consider using our IR35 solutions.
How to Know If You Are IR35 Exempt
Not all contractors are subject to IR35. Some contractors may be exempt from IR35 if their end-client (the company they work for) is a small business.
According to the Companies Act 2006, a small business is defined by the following criteria:
- The client has fewer than 50 employees;
- The client has a turnover of less than £10.2 million;
- The client has a balance sheet of less than £5.1 million.
If the contractor’s client meets these criteria, then the contractor can decide their own tax status and pay themselves through their limited company. They do not have to worry about being inside IR35.
However, some large companies may try to avoid IR35 by creating subsidiaries to hire contractors. In this case, HMRC will look at the parent company as the end-client and apply IR35 rules. Therefore, contractors should be careful and check the ownership and structure of their client’s company.
Will IR35 Apply Retroactively?
Many contractors are concerned about whether HMRC will apply IR35 retroactively and demand back taxes and penalties from them. The good news is that IR35 will not apply retrospectively in most cases.
However, there are some exceptions. If HMRC suspects that a contractor has deliberately avoided or evaded tax by misrepresenting their status or income, they may launch an enquiry and apply IR35 to their past contracts. This could result in a large tax bill and a possible prosecution.
Therefore, contractors should be honest and transparent about their working arrangements and income and keep accurate records and evidence of their contracts and payments. They should also check their IR35 status regularly and comply with the rules.
Will IR35 changes affect the contractor process?
IR35 rules should not cause any disruption to the flow of business. But defining contractor determination in advance is vital to ensure there are no surprises when IR35 changes come into effect. We can help by identifying the best solutions for:
- Substitution: IR35 dictates contractors are liable for any substitutions, not the client
- Supervision: “Standing over the shoulder” isn’t allowed. Clients simply pay contractors when work is done with no interruption
- Financial Liability: Contractors, when acting as a company and not your employee, take on the financial burden of works, even if they go on too long
- Mutuality of Obligation (MOO): A clear endpoint is set so that once work is completed and paid for, the client or contractor cannot be expected to continue.
IR35 calculator - CEST tool
CEST can be used to determine the status of each assignment. CEST is not mandatory but according to HMRC it would stand by the decision given.
If a contractor's determination is incorrect, under IR35 legislation the client could face the following penalties:
- The client could face fines of over 50% on top of the contractor's salary
- HMRC could also charge additional fines and interest on outstanding liabilities
- Going forward, fines could be backdated up to a maximum of 4 years back to April 2021
- Business performance could be affected due to a lack of resources if a contractor's position has not been defined and resourced
Does IR35 Apply to Me?
To understand how IR35 will affect you, you need to be aware of the specific factors that apply to your situation. Here are some key points to consider.
IR35 for Contractors
Contractors are one of the groups that will be most affected by IR35. Since they no longer have control over their status determination, they could lose thousands of pounds on every contract.
Contracts need to meet the criteria set by HMRC, clearly state how a contractor should be classified (i.e., inside or outside IR35) and ensure that they actually work according to the contract terms. HMRC is being lenient in the first year of the new IR35 rules, but they will likely crack down on contractors who are setting up contracts with language that suits them but does not reflect their actual work practices.
IR35 for Agencies
Agencies will need to adjust and overhaul their processes to comply with the new off-payroll rules, determine the status of their contractors and clients, and identify whether their clients are small or large businesses.
They will also have to deal with the challenges of existing contracts that started before April 2020 and continue beyond that date and decide if they need to change the way they pay their contractors.
IR35 for Small Business
IR35 defines a small business based on its turnover, profits and number of employees.
If the client is a small business, the contractor or the agency that intermediates between them is responsible for paying taxes.
Empiric IR35 Solutions
Empiric provides IR35 solutions to help you determine workforce status beyond HMRC checks. We go beyond ticking boxes to actively monitoring the working practices of a business, identifying how you will be affected by IR35 and what actions you will need to take to adhere to IR35 rules.
Outside of IR35 solutions
You may see areas of your workforce designated as outside of IR35 and this will have a direct impact on your resources and capabilities to meet your business goals. When this happens there are two ways we can help avoid problems and ensure work continues as normal:
- Working 1-2-1: Empiric’s engagement model utilises Statements of Work to ensure any contractor required to operate on an ‘Outside’ basis has a robust commercial contract to measure and track performance against. Our Service Delivery manager ensures that the expectations around the working practices are compliant with regulations and the desired outcomes are achieved.
- Providing a team as a service: Similar to the 1-2-1 engagement, but instead we provide a team on demand which are all managed and tracked through an SOW model for commercial compliance, providing clarity on outcomes and deliverables.
These processes help keep the delivery of talent the way you need it.
Inside of IR35 solutions
IR35 changes shouldn’t cause delays or have negative impacts for those contractors deemed to be working inside of IR35 legislation.
We provide a compliant payroll service for all contractors determined to be Inside, ensuring PAYE is processed accurately capturing all required deductions.
Ltd. company contractors can still use their PSC whilst providing you with the peace of mind that they are compliant with their tax and NI obligations.
- The agency will ensure that tax and NI are deducted from the gross fees
- The agency will send the deductions directly to HMRC.
Employment rights do not apply such as sickness and holiday pay.
IR35 solutions for any business
With all the changes coming through, we are helping clients find solutions by highlighting what options are out there and where real opportunity lies to improve workflow.
Empiric will work in partnership with clients to deliver solutions by:
- Identifying the level of IR35 risk exposure
- Detailing what designations current contractors fall under and what changes may be required
- Providing an action plan to transition contractors to their new status, if required
- Ensuring compliance with HMRC regulations
- Clearing showing where liability lies for all parties
IR35 & Overseas Clients
The changes in IR35 did not clearly address the situation when a contractor or their agency works with an overseas client. It is unclear whether IR35 applies in this case and who is responsible for determining the contractor’s status.
This issue was not anticipated by the government and can be confusing. Generally, if the end client and agency are based outside the UK, they are still partially responsible for determining which side of IR35 the contractor falls on.
Several variables need to be considered, including where services are provided, whether the client has a presence in the UK, and whether the workers on the contract are from the UK.
Empiric can help you navigate IR35
If you run a private sector business, you may need to comply with new legislation on working practices. Even if your company is small and exempt from the change, it’s advisable to check with us. We can help you understand the implications and requirements of the new law and ensure your business is ready.
IR35 is a tax law intended to ensure everyone pays their fair share. However, since its introduction in 2000, it has become complex and even those with a good understanding of the subject may need help to ensure compliance.
If you have any questions or would like our IR35 specialists to review your situation, please don’t hesitate to get in touch.
Let us advise you