A failure to understand or comply with IR35 (Intermediaries legislation) could end up costing tens of thousands of pounds in back payments, so it’s well worth taking some time now to understand what it is and whether it affects you.
What is IR35?
In basic terms, IR35 is legislation used to assess whether a contractor assignment is a genuine contractor or a ‘disguised employee’*, in order to ascertain whether they’re correctly classified and paying the correct amount of tax and National Insurance.
It is in place to identify those who are enjoying the tax efficiency that comes with being a limited company, even though they’re operating as a full-time employee. If a contractor is being paid through a limited company, when if that intermediary didn’t exist they’d be classed as an employee, they would be in breach of IR35 legislation.
There are many indicators which are used to determine whether a contractor assignment is inside or outside of IR35, so it is not always easy to determine the IR35 status. HMRC have an online tool, CEST, used to determine the employment status for tax.
* UK Business Information defines this as: “a contractual worker who fills a permanent position in your company but doesn’t pay the corresponding income tax and National Insurance contributions (NIC) a permanent worker would.”
Are you caught by IR35?
It can seem pretty convoluted and confusing, but it doesn’t have to be too tricky to understand whether or not you’re in breach of IR35 guidelines.
HMRC undertake a bunch of tests to figure out if you’re an employee of the client or whether your limited company is providing services to that client. The main tests are:
Supervision, direction and control
For this test, HMRC will be looking at how much control your client has over you.
A legitimate contractor has a certain amount of autonomy in the way they work, in terms of the when, where and how. An employee has less so, in that they are usually under more of their employers’ control, and often contractually tied in when it comes to working hours, place of work, and other factors.
In order to stay classed as self-employed, your client should have no influence over how you carry out the work you’ve been contracted to do. You should have full autonomy over how you complete your contract, with the only direction being when it needs to be done by.
In this respect, your client should provide you with milestones and tasks to complete, rather than work that is open-ended. An employee would have open-ended projects and tasks, whereas a contractor is brought on for a task, with a goal and end date in mind.
So, when it comes to your contracts, these are the things to look out for:
- Any indication that you will be under the direction of a manager of any kind
- Any mention of working hours, or lunch breaks
- Any mention of things that could be construed as employee benefits, including holiday or sickness
- Any clauses that could be seen to give the client any rights of control over the contractor
A good indicator to HMRC that you are operating as a contractor is the right to provide a substitute.
An employee provides their expertise and services to an employer, whereas a company simply provides a service – regardless of who delivers that service.
Therefore, many contracts will include a substitution clause requiring the client to confirm that they’re happy for a substitute to be used where the contracted worker is unavailable.
Simply including this clause doesn’t mean you are outside of the scope of HMRC though. They will expect it to be shown how this would work in practice. For example, if you’re a contractor carrying out a specific task, how would another person be expected to come in and pick that up? Is it feasible?
They will also look at whether a substitute has been used during the contract – a very strong suggestion that you are self-employed.
And, in the case a substitute is used, it would be at your cost, and your responsibility to train and make the necessary arrangements.
It’s also your clients right to veto – if the substitute isn’t qualified, or they feel they’re unsuitable for the task, your client should have the right to reasonably decline their services.
While these factors are good contractual practice and can be a strong indication that you are self-employed, if you don’t have these in place you aren’t automatically going to be considered within the scope of IR35. There’s a bunch of other factors that are considered.
Mutuality of obligation
A contract of service requires an ‘irreducible minimum of mutual obligation’. This means that the client is obliged to remunerate the contractor, and the contractor is obliged to provide their services.
A self-employed person would expect to be hired to undertake a task, with no expectation of further work once the contract is completed.
If, once a contract is completed, another is offered, this may raise questions. If your contract is renewed multiple times, this could be viewed as bypassing a contract of employment. In HMRC’s words, “where work is regularly offered and accepted over a period of time a continuous contract of employment may be created.”
These are the three big ones, but there are other factors looked at by HMRC.
Provision of equipment
As a contractor, it’d be expected that you provide and use your own equipment. If the client is providing the equipment for you to carry out the work, this is a pretty strong indicator that you’re employed.
Does all risk lie with the client? If so, this points towards employment over self-employment.
This risk could be an individual purchasing material for a job or quoting a fixed price for a piece of work, knowing they could lose out financially if the job overruns.
HMRC will often look at payment. Employees usually get paid an hourly wage or a monthly salary, with some also benefitting from overtime or bonuses. Contractors will instead be paid a fixed sum with no opportunity to earn any overtime or extras.
If you work solely for one client and that contract has been renewed many times, this could be an indicator of employment, as most self-employed people would be working for multiple clients simultaneously.
Part & Parcel
How integrated into the organisation is the contractor? Do they attend staff meetings, go to social events, or have access to staff facilities or benefits?
Intention of the parties
Even if no formal written contract exists, HMRC would want to determine what the true status of the relationship between the parties is – one of employment or self-employment. This is often the last port of call for a decision if investigation into the other factors is inconclusive.
The legal stuff
When it comes to looking at these factors, it isn’t simply a case of looking at how many fall under employment and how many fall under unemployment. This method wouldn’t be accepted by the courts. Instead, it’s a case of establishing the facts and looking at everything as a big picture, before using this to assess whether you’re an employee of the client, or a limited company providing a service to them.
HMRC has looked at numerous standard contracts and deemed that they fail IR35. This means that it is worth looking at your own contracts, and even consulting with a specialist, to ensure they meet the requirements of IR35 and keep you outside of the scope of the legislation.
Unsure of your status? Check out these helpful resources and further information from around the web.
IR35: High profile cases
Our summary above is just that, and isn’t intended to be used as advice. Please refer to the above resources and do your own research!