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This guide serves as a helpful introduction to IR35, answering the important questions as they relate to you. It explains what IR35 is, how to check if your contract fall inside the legislation and what to do about it if you get caught out.
The guide has been updated to reflect the latest IR35 rule changes that take effect from April 2017.
What is IR35?
IR35 is a piece of legislation that is designed to prevent contractors that are effectively carrying out their duties like an employee from gaining the tax advantages that Limited Company contracting brings.
Also referred to as intermediaries legislation and ‘disguised employment’ legislation, the rules determine whether the Limited Company can receive funds gross or whether the contract should be taxed as if you were an employee.
The rules can apply to people who legitimately believe that they are trading as a Limited Company but who, in the taxman’s eyes, are actually employees.
Contractor – contractors work contracts that are outside of employee or worker status. They are also commonly referred to as freelancers and sole traders but it’s not enough just to describe yourself this way. Contractors tend to be more tax efficient but they do not enjoy the same employment rights as workers unless they are employed by an Umbrella Company – such as umbrella.co.uk
Worker – People with employee or worker status should pay tax and National Insurance through PAYE and National Insurance directly from their wages. It is not as tax-efficient as contractor status, but workers and employees do enjoy employment rights like holiday pay and sick pay, as well as legal protection from losing their job.
Personal Service Company (PSC) – Personal Service Companies are limited companies that sell the services of an individual and are also owned and operated by that same individual.
Do I need to worry about IR35?
You have a responsibility to show that the services you offer are not subject to disguised employment.
If you are working through;
- A limited company
- A partnership
- Or an intermediary
Then you have a responsibility to show that the services you offer are not subject to disguised employment (unless it is a public sector contract, in which case the responsibility for deciding IR35 status will fall on the public sector organisation or another engager. More on this below).
History of IR35
To properly understand IR35 it is important to understand some of the history behind it and the context under which it was created.
IR35 first appeared on that statute book in the Finance Act 2000. It was billed as a way of halting a widespread tax avoidance ploy which saw many genuine employees ‘leaving’ their employers and setting up PSCs before returning to the same employer to claim a more tax efficient pay packet through National Insurance and Dividend tax efficiencies.
More recently, the government has sought to tighten up the legislation.
Citing widespread non-compliance with the rules, the government has forced something of a shake-up in the public sector as it tries to set an example to all contractors.
The most recent rule change means that on public sector contracts, the IR35 status will be determined by the public sector body or engager rather than the contractor. This rule change will be effective from April 2017.
Am I a contractor or worker?
Even if you have always operated as a contractor, it is worth checking your IR35 status because HMRC’s view may be different from your own.
The quickest and easiest way to check if HMRC thinks you are a contractor is to use their Employment Status Tool.
What should I look out for in a contract?
Not sure whether a contract will be subject to IR35? There are a number of important things to look out for before you take on a contract.
1. Can you send someone in your place?
Being able to send a substitute in your place is seen as one of the defining marks of self-employment. An employee would not be expected to do this but somebody who owned a limited company might.
When you get a contract, check through to make sure there aren’t any clauses about related to who specifically has to do the work.
Similarly, you should check that the contract doesn’t restrict you from working for someone else while you are engaged with a particular organisation.
2. Does it tell you how to work?
This is an important one. Control and supervision make up two very important parts of the IR35 equation.
Although contracts will contain details about the work that needs doing, HMRC want’s the contractors to maintain control over the nature of their work throughout the contract period.
In your contract you should watch out for defined start and finish times, specific days they want you to work, defined breaks and clauses related to supervision or any management. These could all be indicative of an inside IR35 contract.
To keep some distance between you and the organisation, you should also try to use your own equipment (where practical).
3. What’s your obligation like to the company?
If an employee refused to do some work set for them by an employer, then there’s a good chance they would be disciplined.
If, on the other hand, a company finds a freelancer and asks them to carry out some work, the freelancer would be under no obligation to accept. To stay outside IR35, your relationship with a company needs to be more like the second example and less like the first and the contract and any pre-contract negotiations should reflect this.
4. What was the context behind the contract?
Context is always important. It is no good describing yourself as a contractor if all the contextual factors point a different way.
Before you take on a contract, ask how the role came to be available. Are you a like-for-like replacement for somebody who used to be employed by the company? Even if you replace a full-time employee on a temporary basis, there is a high chance that you could be deemed inside IR35 by HMRC.
5. Are you a ‘part and parcel’ employee?
‘Part and parcel’ relates to something that is a necessary part of an experience. Just as being recognised in the street is part and parcel of being famous, there are certain things that are part and parcel of being employed by an organisation.
If your case ever comes under an IR35 investigation then HMRC will consider some important details about your relationship with an employer. If you appear on a company’s ‘meet the team’ page, for example, HMRC might judge you to be part and parcel employed there.
They might reach a similar conclusion if you are given a key to the premises (and don’t have to sign in as a visitor), if you are managing staff or if you go to non-specific staff meetings.
How can I avoid my contract falling inside IR35?
Do not write a contract that is deliberately IR35-friendly if it will not reflect the nature of the working relationship you have with an organisation. This could land you in deep water with HMRC.
Before you start on a new contract you should air out any IR35 concerns with the organisation and seek assurances that you will not be expected to behave like an employee.
You should then write a contract or check that any contract you receive is IR35 proof. Accountants like Umbrella Accountants will be able to check this for you.
Once you have a new contract you should start collecting documentation that could be used to prove that you are working as a contractor rather than an employee.
Examples of good documentation include contracts, client briefings, emails between you and the client and contact details for people who would be able to confirm your story.
What should I do if a contract is inside IR35?
If a contract is found by you or someone else to be inside IR35 then you still have a few options. You can pay tax as HMRC wants you to, speak to the client about changing the contract, or reject the contract and seek work elsewhere.
It may also be worth speaking to an IR35 specialist like Umbrella Accountants.
An IR35 specialist will be able to advise on you the best course of action.
In many cases it can be more tax efficient to join an arrangement like an umbrella scheme. Under an umbrella scheme you would be subject to a similar level of tax as if you were classed as an employee, but you would also enjoy added benefits like sick pay and holiday pay.
If you require any more help and advice with a more specific IR35 scenario, or you would like to learn more about the options that are available to you, please contact a member of the accounts team. Call: 0800 121 6513.
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