What is IR35?
IR35 is UK tax legislation that is designed to assess whether a contractor is a genuine contractor or is a ‘disguised’ employee, for the purpose of paying tax.
A ‘disguised’ employee may take advantage of the tax efficiency of working through a limited company, when they would really be an employee were they not working through their company.
Employers benefit from this type of arrangement as they do not have to pay employers’ National Insurance contributions or give contractors employee benefits, and contractors benefit because they can maximise their tax efficiency through the limited company.
IR35 is therefore an employment status test, to determine whether a contractor is employed or self-employed for tax purposes.
What are the changes to IR35?
In April 2021 public sector off-payroll working rules were applied to the private sector. This has brought about the following IR35 change:
- Medium-sized and large businesses are now responsible for determining a contractor’s employment status (not the contractor); and
- Contractors are to be given a reason for the decision in a Status Determination Statement, which they can dispute.
Important to note that small businesses are exempt from this change, in that the contractor is still responsible for working out their employment status if the small business meets two of the following criteria:
- Annual turnover of no more than £10.2 million
- Balance sheet total of no more than £5.1 million
- No more than 50 employees
How do the IR35 rules work in practice?
According to HMRC, when working out whether IR35 applies to a contract, the employment status of the person providing the service must be assessed and, if the contractor “would be an employee if there was no intermediary”, the off-payroll rules should be applied.
What is an intermediary?
An intermediary is an entity through which a contractor provides their services to a client. The intermediary will often be the contractor’s own limited company or personal service company*.
*A personal service company is a limited company which is set up to provide the services of one contractor, who is often also the company’s only shareholder and sole director.
There can also be other types of intermediaries such as a partnership, another personal service company or an individual.
What factors are considered in determining employment status?
There are 3 fundamental principles against which employment status is assessed:
- Supervision, direction, control
This relates to the extent of control that a client has over a contractor’s working conditions and assigned tasks. A contractor whose working hours and tasks are determined by the client is more likely to be inside IR35.
2. Substitution
A contract must allow a substitute to perform the work for it to fall outside IR35. If a contract does not allow this, it is more likely to be inside IR35.
3. Mutuality of obligation
If a client is obliged to offer work (and pay the contractor) and the contractor is obliged to take it, this represents an employment contract and falls inside IR35.
Other factors to consider when determining IR35 status include who provides the equipment, who holds the financial risk for failure of the contract, how the contractor is paid, whether the contractor works exclusively for the client, whether the contractor is running their business as a business (e.g. website, own premises, etc) and whether the contractor has become ingrained in the client’s business.
*This blog is created for general content purposes and should not be construed as advice.