Off-payroll working for contractors & freelancers:
What’s IR35, what’s changing, and what do I need to know?
Introduced in April 2000, the Intermediaries’ Legislation, or IR35, is a tax law that targets ‘disguised employment’. It concerns freelancers and contractors who provide their services via a Personal Service Company (PSC). IR35 aims to ensure that the correct amount of Income Tax and National Insurance Contributions (NICs) is paid.
If certain conditions are met, then under IR35, the earnings of the company are considered to be a ‘salary’ on which Income Tax and NICs are payable. This is referred to as ‘inside’ or ‘within’ IR35. Where these conditions are not met, we refer to the contract as ‘outside’ IR35.
What's a Personal Service Company?
Many freelancers and contractors provide services to clients via their own limited companies. In tax talk, this is referred to as Personal Service Company, or PSC.
PSCs generally provide professional services direct to a client, or via an agency. A PSC is defined as a limited company with a sole director - the freelancer or contractor - who owns all - or the majority of - the shares and provides the service themselves.
An individual performs services for another (the client).
These services are provided under a contract that involves a PSC.
If the services were provided under a contract directly between the individual and the client, as opposed to through a PSC, the individual would be regarded as an employee of the client.
When does IR35 apply?
IR35 applies when three conditions are met:
Understanding whether the third point is met is why there can be uncertainty surrounding IR35. In fact, two experts can reach a different opinion after interpreting a number of factors and relying on past judgements in case law.
Whilst over 50 years old, the Ready Mixed Concrete (1968) case is still the most relied upon case law used to defend employment status and IR35 cases. Its importance is based upon what it states must exist for a contract to be one of employment. We call these the three ‘tests for employment status’. These tests are Right of Substitution, Control, and Mutuality of Obligations.
What does ‘right of substitution’ mean?
In relation to IR35, the right to substitute is the right to send a replacement to perform services under the contract. It’s important when proving your status as a professional PSC, and not an employee.
If you ‘personally perform or are obligated to personally perform’ services for a client and can’t provide a substitute, it indicates that your contract may be inside IR35. For your contract to fall outside IR35, it should specify that a replacement can complete work on your behalf.
What does ‘control’ mean?
Control is one of the crucial factors when assessing IR35. In IR35 terms it means how much control you, the contractor, have over the work you do for your client. You’ll often hear it grouped together with supervision and direction, which are also pointers to control.
If your client dictates where you work, when you work or how you carry out your work, it indicates that you’re operating in the same way as an employee. Your contract therefore, is within IR35.
It’s worth noting that even if the right of control is not exercised, but exists, either in your contract or as an expectation of the client, it’s enough to indicate that you’re working inside IR35.
If you have the ability to decide how a contract is completed and can complete work according to your own schedule, this would likely indicate that you have control over the work you do. You could, therefore, be outside IR35.
What does ‘mutuality of obligation’ mean?
Mutuality of obligation, or M.O.O., is when there’s an obligation on a ‘work-provider’ (client) to provide work, and an obligation on the individual to perform that work.
This legal obligation constitutes a contract of employment. So, if you expect your client to give you work to fill your time, and the client expects you to complete it, your contract is inside IR35. This is irrespective of what is covered in your contract or what you have quoted for.
Furthermore, if your contract states that you can’t take on another client while working for your current client, it also indicates that you’re operating inside IR35.
In April 2017 changes to IR35 were introduced for individuals who worked for clients in the Public Sector. This change in the legislation was called ‘Off-Payroll’ working. It applied to those working within the Public Sector, who were not directly employed or on the payroll, namely, contractors, freelancers and business owners.
The new rules transferred the responsibility for assessing the IR35 status of a contract from the individual performing the work through their PSC, to the ‘engager’ (client).
Where the contract is deemed to be within IR35, the responsibility for the reporting and paying of Income Tax and NICs also moved to the client. The only exception is where another party within the supply chain pays the PSC i.e. a recruitment agency.
Where a recruitment agency is the ‘fee payer’, they’ll be responsible for Income Tax and NICs. However, to reiterate; the assessment of IR35 will still remain with the client.
In April 2020, the Public Sector amendments will be extended to include all medium and large Private Sector businesses.
Small businesses are, however, excluded from the change. This means the individual (PSC) will continue to assess their own IR35 status and be responsible for paying the correct amount of Income Tax and NICs.
What is CEST?
If you’re already familiar with IR35, you’ll have come across ‘CEST’. This is HMRC’s ‘Check Employment Status for Tax’ tool.
CEST is a free, anonymous service. It was created in an effort to help businesses determine the IR35 status of a contract, and was initially rolled out for use in the Public Sector.
The use of the ‘CEST’ tool isn’t mandatory. A business may use alternative tools available, outsource the testing to external professionals, or simply devise their own process.
If you’re an agency or client looking for expert support with assessing contracts and working practices, talk to us today about our IR35 Assessment Service.
What if my contract is ‘inside’ IR35?
As mentioned earlier, if your contract is inside IR35, your fee-payer will treat your full contracted income as if it were a gross salary. They’ll then calculate and deduct Income Tax and NICs on this amount. The net amount or ‘deemed salary payment’ will then be made to your limited company.
You’ll have to supply your client with details of your identity, tax code and National Insurance number.
Even though the fee payer is deducting tax and NICs, there is no requirement for them to make any expense deductions.
This is unlike the current rules within the private sector, where there are allowable deductions which would reduce the contracted income before applying tax and National Insurance.
Talk to your client – if you feel that your contract and working practices should be outside of IR35, speak to your client.
Talk to them about their expectations and the contract you have in place to ensure this is reflected in the way you work with them. If you’ve tried this and still don’t agree with the decision, you can appeal to your client. They have 45 days to respond.
Continue to work via your PSC – where your agency or end client allows payment via a limited company, you can continue to work this way. You’ll receive your net salary as previously mentioned.
However, if the majority of your contracts are likely to be within IR35, when you combine this with the responsibilities and ongoing costs of being a director of your own company, you may find that this isn’t the most efficient way of working.
What are my options if my contract's ‘inside’ IR35?
Inside IR35 there are a few options as to how you can work.
Switch to an Employment Umbrella Company – by working through an employment umbrella you become an employee. It means you can continue to work flexibly whilst also gaining the benefits associated with full employment. This includes holiday pay and statutory payments like sick pay and paternity or maternity pay. You’ll also retain continuity of employment, often giving you access to additional financial products with more attractive rates.
If you’re a Danbro Accounting client for your PSC, you can retain your limited company and work via our Employment Umbrella for free. This is particularly handy if you think your future contracts will be outside IR35.
To talk to us and to find out more
Work with ‘small businesses’ – although end clients have been advised against making ‘blanket determinations’ that all their contractors are inside IR35, the previous changes in the Public Sector have shown us that this can still happen. If you believe that you have wrongly been assessed as within IR35, working with a small business - exempt from these changes - means that you’ll retain the responsibility for assessing your own IR35 status.
As a Danbro Accounting client, you’re entitled to a free IR35 review. This will help you make the right decision and ensure that you’re making the correct assessment.
Become a small business – another alternative is to actually become a ‘small business’. It may not be the most straightforward option, but forming a business puts the control back into the hands of those outside IR35.
Agency or client payroll – finally, if your company offers a payroll solution, you could always consider becoming their employee. Be warned though, you can expect to take home less than you’re used to thanks to the added costs your ‘employer’ will have to bear.
How can I prepare for the changes to IR35?
Ensure youhave an authorised business to business contract which is up to date and covers your current circumstances.
It would be to your advantage to ensure you're not individually named in your contract and that the project you're undertaking is clearly defined with very clear deliverables.
More importantly than the contract is the actual working relationship with the client, and in particular, the your working practices. It's advisable that a Confirmation of Arrangements document, signed by your client, is obtained. This confirms the client’s understanding of the arrangements.
The statement would need to include facts that indicate self-employment, like a lack of requirement for personal service and control over the provision of the services.
Confirmation of Arrangements
Keep records of particular events which demonstrate acting differently from client employees. An example would be that during an IT failure you went home and received no pay, when all employees remained.
You need to differentiate yourself from the actual employees of the client, beginning with the contract you sign and how you act on a day to day basis.
Market your business; choose a business name - not utilising your own. Create a logo and business stationery, and sell your services via a company website.
Behave like a business
As we provide both accountancy and employment umbrella solutions, we can advise and support on the best way of working, whether inside or outside IR35.
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If you’re an agency or client looking for expert support with assessing contracts and working practices, take a look our IR35 Assessment Service
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Our clients can transfer seamlessly from working via their PSC to our Employment Umbrella solution and back again, meeting the needs of each assignment and its working practices. What’s more, if you want to keep your Limited Company active, you can work through our Employment Umbrella for free*, or benefit from free dormancy fees for 6 months*.
We also provide free IR35 assessments for existing Limited Company clients. Furthermore, at an additional cost, we can provide an independent working practices review to support a decision on IR35 status.