In April 2021 one of the biggest shake-ups of the use of contractors in the private sector is due to occur. This change will fundamentally alter the way that companies must choose, appoint, and manage their contractors.
Companies that get this wrong could find themselves with much larger employment costs than they expected and potential penalties and interest applied.
By the same token, Agencies and Contractors who mis-apply the rules could find themselves in hot water, so it is important that you get it right.
This post is designed to give people an initial insight into what is about to happen and what it means for the contracting sector, but please bear in mind that this is a massive subject so if you are at all unsure then do take advice.
In this post we will discuss the following:
- IR35 background
- IR35 – Does this mean your business?
- How will IR35 affect contractors?
- How will IR35 affect companies?
- The New IR35 Proposals – How it will affect agencies?
- How to tell if a contract falls into IR35
- The IR35 tests
- What happens if you get it wrong?
- Be safe – take advice
- IR35 FAQs
The new IR35 legislation means that private companies need to assess whether they fall under the requirements of the rules, understand the needs of their business, and then design a system to cope.
If you are a business, a contractor, or an agency in the UK then you need to know what the new IR35 rules are that are about to come your way.
In 2000 The Intermediaries Legislation (commonly known as IR35) became law. This act was designed to tackle the issue of people charging organisations for their services through a Personal Service Company when to all intents and purposes they were in fact, permanent employees. IR35 was a well-intentioned method of ensuring that workers could not avoid their fair share of taxation.
At the time of inception, there was an increase in contracting in the UK economy and whilst this was mostly justified with more IT, Finance, Marketing, and other workers moving to a flexible working model, there were also some people who were clearly employees in the traditional sense of the word.
Although many have complained that IR35 achieved the status of being both overly complex and a blunt instrument that reduced the incentive for entrepreneurship, in general terms, it seemed to work well.
To raise more taxes, in 2017 HMRC introduced significant changes to the public sector regarding the use of contractors and similar changes are now slated for implementation in the private sector.
The reforms were due to come into force in April 2020 but have been put back by a year to April 2021 due to Covid-19.
IR35 – Does this mean your business?
All medium and large businesses will have to abide by the IR35 rules, small businesses will be exempt – for now.
The definition of a small business can be found in section 382 of the Companies Act 2006.
Companies that are part of a group will be treated at an aggregate level. For example, a company might only have 5 employees but own a subsidiary that has 45, in which case it is in scope.
The rules will apply from the start of the tax year after the point where the organisation breaches the limits. This means that companies need to think about where they will be during the year and make sure that their contracting arrangements are compliant.
If you are a contractor then you need to make sure that you are working under the right provisions, especially if you work through a personal service company. The off payroll working rules can apply if a worker (sometimes known as a contractor) provides their services through their own limited company or another type of intermediary to the client.
The rules make sure that workers, who would have been an employee if they were providing their services directly to the client, pay broadly the same tax and National Insurance contributions as employees.
How will IR35 affect contractors?
Probably the most noticeable effect will be that some clients will simply refuse to take on contractors through PSCs. In the public sector, we saw clients applying blanket determinations which, whilst being against the rules absolves them of any liability.
But in general, the simple way around it is to refuse to work with limited company contractors and force everyone into a PAYE fixed term contract.
This means that contractors will tend to find it more difficult to escape PAYE. The most important thing is to make sure that you comply with the rules around IR35 and that your contracts are correctly drafted.
How will IR35 affect companies?
If your company is large or medium-sized according to the definition given above, then you will be responsible for making sure that you assess the income tax status of all your temporary staff and then evidencing that.
This means that you will need to look at the rules (see below) and assess each contractor individually (blanket determinations are not allowed) and then provide them with a written summary of your determination. You will also need to have a formal appeal’s process in place.
Put simply if you get it wrong you could be investigated by HMRC and have penalties and backdated NICs applied or sued by an unhappy contractor.
It is distinctly likely that the number of good contractors will also reduce as the benefits of working in this way will be diminished and many will just opt for PAYE permanent roles.
In any case, if you use contractors then you need to make sure you have your systems and processes set up by April 2021.
The New IR35 rules – How it will affect agencies?
With the delayed implementation of the IR35 reforms, recruitment agencies need to be aware of the changes coming down the track as there are some very important changes afoot.
As the economy changes, moving towards a more flexible and rapidly moving environment, so the nature of employment and contractors also changes. Unfortunately, the governments’ latest plans appear not only to simplify the tax code but also transfer liability from the worker and client to the agency or ‘intermediary’.
This means that agencies need to be aware of any impending changes and make sure that they take a strategic decision as to whether they are happy to accept the added risk and burden of compliance.
As an agency, you will either be an introducer or an intermediary.
An introducer simply provides an introduction between the worker and the company and that is largely where their involvement ends. If this is you, then IR35 will not apply.
Intermediaries provide a worker for the company end-user. Payment is made by the company to the intermediary and then on to the worker. In this case, you need to be very careful about the new agency rules.
You will also need to report to HMRC at least every three months using their online service and template.
There are four main consequences for an intermediary:
- You will have to operate PAYE for workers inside IR35
- You will have to carry out determinations and have an appeal’s process in place
- Finding contractors may become more difficult
- Some clients may refuse to use anyone unless they are on a Fixed Term Contract (FTC)
The big problem for recruiters under the legislation is that they will not only be responsible for making what can be a complex decision, but they will also become liable for tax and NICs that have not been paid where this decision proves to be incorrect.
It is distinctly possible that some agencies may simply refuse to take on roles where the client specifies that they want to engage a limited company contractor.
It is also highly likely that with COVID and the implications of Brexit, many of your clients have not even thought about IR35 yet, so you may need to guide and educate them.
If you are an agency that works with clients that use contractors, then you need to keep an eye on the legislation and make sure you are ready. This will mean systems, training, and most importantly professional advice.
How to tell if a contract falls into IR35
For the last 20 years, HMRC has been applying a series of tests to see whether a contract should be deemed as employment.
For quite a while they operated a points-based system, then switched to an online calculator, both of which caused them some embarrassment at various tax tribunals!
In general terms, if you can comply with these rules then you are in the box seats. Do not worry you do not need to comply with all of them, but by the same token just saying ‘no’ to one will not save you either!
The IR35 tests
Mutuality of Obligation: Does the employer have an obligation to provide more work for the contractor to do and is the contractor obligated to do it?
Basis of Payment: Does the person get paid a salary or hourly rate?
Provision of Equipment: Does the client provide all, or a substantial part, of the equipment needed to do the job?
Exclusive Services and Length of Engagement: Is the client justified in expecting the contractor to only work for them? Will the contract last for more than two years?
The intention of the Two Parties Is the intention of the two parties to create an employer/employee relationship?
Personal Service and Substitution: Can the client refuse to accept a substitute contractor?
Right of Dismissal: Does the client have the right to dismiss the contractor?
Control: Is the contractor under the direct control of the client manager?
Financial Risk: Does the client accept the financial risk of the contract?
Part and Parcel of the Organisation: Is the contractor acting like they are part and parcel of the organisation?
Business-like Trading: Is the contractor acting as a business?
The main message here is – take advice, even if you think you are sure!
How can Fusion Accountants in London help?
We can help you prepare for all aspects of the IR35 changes, including:
- Working with your team to identify the key processes and the decisions you will need to take to effectively manage the change, quickly and efficiently.
- Using automation techniques prepared to identify PSCs with whom the business engages.
- Managing the employment status assessment process and using our workflow solution to streamline communications and maintain an audit trail of discussions.
- Drafting communications to collective/specific stakeholders, including impacted PSCs.
- Considering contractual amendments with both PSCs and agencies you use to support the transition to the new rules.
- Designing new processes and controls to manage the operational impact of the changes, e.g., payroll.
- Support with the Status Disagreement Process.
- Supporting end-to-end project management on all the above.
Full IR35 Review for Contractors
A full IR35 Contract Review provides an assessment of both your contract and working practices making sure you are compliant and provide the relevant evidence. It will also show HMRC that you have taken reasonable steps to establish that your status lies outside of IR35.
We have partnered with Kingsbridge Insurance to provide you with a heavily discounted IR35 assessment for just £50 that could save you both money and keep you outside of IR35.
Make sure you apply the rules correctly
There are two ways of looking at this. The first is that if you do not apply the rules correctly and deem all your contractors outside IR35 then you could end up having to pay employer’s NIC on any payments you have made, interest on the amounts and a penalty imposed by HMRC.
The second is that if you put in a broad-brush approach you will find that your pool of contractors that will accept work from you will diminish meaning that you have fewer to choose from and presumably less quality. So, it makes sense to get it right.
Be safe – take advice
We cannot emphasise this enough – IR35 is a minefield! We have been studying the legislation for years and for something that has been in place for so long, it is remarkable how many interpretations there are of the law.
If you are a company then you need to take advice about setting up your determination process and we can help with this.
If you are a contractor then you need to make sure you are compliant with the legislation before you accept a contract or you could find it is significantly less lucrative than you thought, so call us now.
If you are an agency, then you need to talk to us and get your systems in place sooner rather than later.