What is IR35?
IR35 legislation is an attempt by H.M. Revenue and Customs to tax a freelancer or contractor trading through his/her company as though they are an employee of the end client. With more workers likely to be affected by the legislation with plans to roll out to the private sector by April 2020, we take a look at what contractors and freelancers need to do to prepare.
Your contractor or freelance company is effectively ignored and PAYE/NI is assessed on 95% of the income. All freelancers or contractors need to be aware of this legislation as it is a potential “pitfall”.
IR35 is only relevant if it can be proved that you are “caught by IR35”, and are a deemed employee of the end client.
If it can be shown that you cannot be such an employee then IR35 cannot apply.
Proving that a worker is an employee is not the same as proving the worker is self-employed; that is an entirely separate argument and not relevant to IR35. The decision about whether a worker is or is not an employee is carried out by a review of the terms and conditions of the contract for services, and, the working practices.
For a contractor considered “inside IR35” and operating as an effective employee – this means they are taxed at source by the employer. For contractors “outside IR35” – who were deemed true business operators, they can process their NICs and Tax as before.
Why was IR35 brought in?
Put simply, loss of income. The government believed that companies were abusing contractors and effectively using them as actual employees. By operating in this manner, companies were able to avoid National Insurance Contributions and benefit payments. Similarly, the government believed it was also losing out by contractors paying less in “corporation tax” through their PSCs as opposed to “income tax”.
IR35 was therefore proposed in 1999 by the then Chancellor, Gordon Brown, to try and weed out “disguised employee”, penalising businesses. IR35 was conceived as an anti-tax avoidance measure and a way to stop further leakage of government income. The legislation was also implemented in order to prevent the “Monday-Friday” scenario where an employee could leave their job on a Friday and start the same role on a Monday as a limited company paying less tax and NICs.
From April 2017, the responsibility for determining the IR35 status of a contract/contractor moved from the limited company contractors themselves, to the public sector end-clients. This means that instead of the worker determining their own status, the responsibility shifted to the client. In the 2018 Autumn Budget, it was announced that the existing rules in the public sector will be extended to the private sector from April 2020.
What impact did IR35 have on the Public Sector?
A number of public sector companies who were not equipped to handle the responsibility, changes and implications on their payroll simply applied a blanket rule, either pushing out contractors completely or bringing them all “on-payroll” but without the same employment benefits (i.e. holiday and sick pay) as actual employees.
Thousands of contractors left government projects or were forced to accept lower rates or left the public sector completely. HMRC and the MoD stopped using contractors entirely..
What is changing?
Despite mounting criticism of IR35, and the HMRC losing a number of high profile cases, the government is still pressing on with a full roll out to the public sector.
The justification according to HMRC, is that without extension of these rules, the cost of non-compliance to the exchequer would reach “£1.3 billion a year by 2023-24.”
The big change coming in April 2020 is that this legislation will be extended to the private sector. Even though it is only for medium-large companies, it will affect around 2 million contractors.
The government issued a public consultation in May 2018, which highlighted a number of flaws. A second consultation was released in March 2019 to try and work out the glaring issues. However, whether any significant changes will occur is doubtful.
The results of this second consultation will make up the draft Finance Bill 2019-2020 legislation
What does IR35 mean for current contractors?
A contractor’s post-tax income can be reduced by up to 25% by IR35. This can add thousands on to the cost of running a limited company in this additional income tax and NICs.
How do you determine your IR35 status?
The HMRC’s IR35 Check for Employment Status for Tax (CEST) Tool was designed to determine whether you are inside or outside of IR35. However, since its introduction, it has been heavily criticised for being too vague and failed in a to adequately assess status in employment tribunals.
“The rules which determine status are so unclear it is impossible to know with any certainty whether an individual engagement falls within IR35’s scope. The CEST tool, which is supposed to enable accurate determinations has been heavily criticised by many independent experts. Even HMRC, with all its undoubted expertise in IR35, has been unable to accurately assess IR35 status, having lost three out of the four cases which have come to light this year.”
Horner Downey have extensive experience in determining employment status. We can help you asses your ‘employment status’ and work through the various tests of employment (e.g level of control, level of substitution, mutuality of obligation)
How can you prepare for the changes to IR35?
- Seek expert advice.
- Find an accountant who can talk you through IR35 and conduct an IR35 review.
- Keep up to date with the IR35 reforms.
How can HD Contractor Accounts help?
HD Contractor Accountants, part of Horner Downey & Co, are Chartered Accountants. We are also accredited by the Professional Contractors Group to give IR35 advice and to carry out IR35 reviews.
Our sector-specific team have worked with freelancers and contractors for many years. We provide all of our services in-house, including IR35 contract reviews and advice.
If you are new to contracting, administration and tax requirements can be daunting. Our friendly team will give you as much help as you need for a fixed monthly payment. Contact us today.