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On 6 April 2021, the IR35 rules in the private sector will change.
Since April 2000, the Intermediaries Legislation – more commonly referred to as IR35 – has been used by HM Revenue and Customs (HMRC) to combat tax avoidance by so-called “disguised employees” that operate as contractors for businesses. The legislation has often proved controversial but will see its reach extended from April 2021.
But what exactly is the IR35 legislation and who does it affect, and what will happen following the 2021 reforms? Read on to find out more.
IR35 applies where an individual works through an intermediary such as a limited company (also known as a Personal Services Company or PSC) to provide services to an end user client when in reality they would be classed as an employee of that end user client if the intermediary was not in place. Such workers are referred to by HMRC as “disguised employees”.
If they are found to be “inside IR35”, that is, deemed to be disguised employees, these workers must pay the same income tax and national insurance contributions as if they were employed through a PAYE system.
Under the current IR35 rules in the Private Sector, the intermediary PSC is responsible for assessing the individual’s employment status.
However in April 2017 the rules changed in the Public Sector – under these ‘off payroll rules’ the public authority which is the end user client must assess status for tax purposes.
The Government believes that there is significant non-compliance with the IR35 rules in the Private Sector and so in 2018 consulted on how to best improve compliance in that sector.
From an end user client point of view, it is important to recognise what might class your contractor as being inside IR35. Your first port of call should be HMRC, which has a number of helpful guides and tools for checking the employment status of staff.
Broadly, there are four key factors to determine whether or not someone is caught by IR35:
Substitution – If you or your contractor has the right or ability to send a substitute to complete their work in their place, this suggests that the personal service that a contractor is providing does not apply, and the worker cannot possibly be an employee.
Control – If you or your superior has the right to exert a significant amount of control over the work that a contractor is carrying out, whether this is where the work is carried out, what the workload is, or how the work is completed, it is a sign that they could be inside IR35.
Mutuality of obligation (MOO) – If a contractor passes both the substitution and control tests, it is unlike that MOO will apply they will likely be deemed as outside IR35. This can be present in both a contract of service and a contract for service.
Risk - Is it possible for the contractor to make a profit or a loss, what is the financial risk?
If, as a contractor or PSC working through an intermediary, a worker’s responsibilities are the same as a traditional employee, they are adjudged to be inside IR35. For further clarification, HMRC has developed an online employment status tool (CEST) for contractors unsure of their liability under IR35.
However, there are industry concerns about CEST and as it is not obligatory to use these tools – end user clients could use any IR35 review tool they wish. The client will then have to pass the status decision to the agency it has a contract with.
For a more detailed explanation of the Intermediaries Legislation for Public Sector organisations (April 2017), read our guide on ‘Public Sector Recruitment: The impact of IR35’.
The legislation saw a significant update in 2017, and in April 2021 we will see further changes as the government continues to crack down on perceived tax avoidance through intermediaries.
The key changes being implemented in April 2021 are:
· Rather than the onus being placed solely with the contractor for the determination of its employment status and the correct level of tax, responsibility will now sit equally with the contractor and the end user client. So, this means that any unpaid tax can be collected from both parties if there has been an error made.
· If a contractor is suspected to be inside IR35 when they have claimed they are outside IR35, then they should be prepared to be investigated by HMRC. This investigation can be backdated by up to six years, and any owed tax from that period will be claimed back by the government.
For this reason, it’s recommended that contractors use HMRC’s employment test tool prior to undertaking any new contract.
After much speculation, it was announced in the 2018 budget that IR35 would be extended to the private sector from April 2021, with the exception of small organisations. The definition of a ‘small organisation’ is similar to that of the Companies Act 2006, under which medium and large organisations fulfil two of the following criteria:
· Net turnover exceeding £10.2m
· Balance sheet totalling more than £5.1m
· More than 50 employees
The reform is expected to impact most private sector contractors, the majority of whom work for large companies. The measure is predicted to net the Treasury an additional £1.3bn per year from 2023.
The private sector rollout could lead to a loss of earnings for private-sector limited company contractors who suddenly find themselves inside IR35. As we gear up for the reforms to take effect, the spectre of Brexit has prompted some large organisations to relocate to continent bringing more people, including contractors, into the job market.
However, it is important to remember that contractors will still be sought after, and paid a premium for their services compared to regular employees. For this reason, it’s predicted that the 2021 reforms will not sound a death knell for contracting; what it does mean is that it’s never been more important for both sides – contractor and employer – to know where they stand. For a confidential discussion about your hiring challenges, contact us today.
This material is intended for general information purposes only and does not constitute legal advice. Specialist legal advice should be taken in relation to specific circumstances.