What is IR35?
The IR35 regime was introduced in order to clamp down on a specific form of tax avoidance by individuals who supply their services through an intermediary, such as a personal services company (PSC), and pay themselves in dividends, thereby potentially reducing the amount of income tax that they pay and avoiding national insurance contributions.
Generally, IR35 will apply where a worker would be an employee for tax purposes if they had been hired directly by the client or end-user.
The new changes to the IR35 rules were originally scheduled to come into effect in April 2020 but were postponed by the government due to the COVID-19 pandemic.
What is changing?
From 6 April 2021, now less than 60 days away, the responsibility for assessing whether IR35 applies to a particular engagement will shift from the contractor to the client or end-user. The end-user will be required to provide its assessment in a Status Determination Statement (SDS) and provide this to the contractor and to the PSC or other intermediary involved, before any payment is made.
The client / end-user must exercise ‘reasonable care’ in its assessment of the employment status of the contractor, and provide reasons for its assessment in the SDS. When considering the contractor’s employment status, the end-user must take into account various factors in respect of the engagement, including the right of control, personal service, the ability to use a substitute, mutuality of obligation and whether or not the contractor can be said to be taking the financial risk associated with running a business. HMRC’s Check Employment Status for Tax (CEST) online tool (accessible here) is designed to assist with the status determination process.
Where an engagement is assessed to be within the scope of the new IR35 rules, the responsibility for operating PAYE and paying National Insurance Contributions (NICs) will transfer from the PSC to the ‘fee-payer’, the entity which directly contracts with the PSC. The end-user is required to have a dispute resolution procedure in place to enable the contractor or fee-payer to challenge the status determination, and the end-user must respond to such a challenge within 45 days.
The new IR35 changes will apply to any payments made on or after 6 April 2021, unless all the worker’s labour has been provided before that date.
Will the new IR35 rules apply to my business?
The new rules will not apply to small companies, being companies which satisfy two of the following criteria:
- An annual turnover of no more than £10.2 million.
- A balance sheet total of no more than £5.1 million.
- No more than 50 employees.
If your company is a group company, its parent company must qualify as a small company to avoid being subject to the rules. To determine whether the parent company is small, the figures from all group members must be aggregated before the above criteria are applied.
Medium or large businesses caught by the new rules must also have a ‘UK Connection’ for the tax year in which the contractor supplied their services (based on UK residency or having a permanent establishment in the UK immediately before the beginning of that tax year). Therefore, the rules will not apply to end-user businesses which are wholly based overseas.
In order for the new IR35 rules to apply to an engagement, the contractor must be subject to UK tax or NICs, and must also provide a personal service to the client or end-user (and not a fully outsourced service).
How to prepare
The preparation you need to take will depend on your business’ position in the contractual chain in respect of the supply of services by contractors.
Businesses should consider taking the following key steps to prepare:
- Carry out a risk assessment for existing contracts to identify engagements which may by caught by the rules.
- In the case of engagements with genuinely self-employed contractors, review and amend the terms and conditions of the contracts to reduce the risk of the rules applying.
- Insert clear tax warranties and indemnities in all contracts with contractors.
- Implement robust procedures for recording the use of contractors, hiring contractors and making status determinations.
- Ensure that you have a dispute resolution procedure in place for any challenges to status determinations.
If you are likely to incur new tax liability in respect of existing contracts, you will need to update your payroll and accounts systems to ensure that they comply with the IR35 rules. You may wish to consider terminating the contracts and entering into new ones which provide for a reduction in the fees charged by the PSC, or other intermediary, to reflect the transfer of tax liability.
Alternative options include encouraging contractors to provide their services via an agency or an umbrella company which operates PAYE, or offering workers a fixed-term or permanent employment contract, thereby excluding the possibility of the engagement being caught by the new rules altogether.
If you have any queries in relation to the IR35 rules or would like further information on how to prepare for the incoming changes please don’t hesitate to contact a member of our Wedlake Bell Employment team.