What is IR35?
Starting April 6, 2020, stricter enforcement of the IR35 legislation will take effect.
While not new, the IR35 is a set of UK payroll legislation that aims to make tax avoidance more difficult for individuals that hold limited companies. The objective of the legislation is to close a loophole that allows an individual to set up a limited company for the purpose of paying less taxes rather than be employed directly by a company. The IR35 will only affect those who would theoretically be directly employed if there was no limited company.
The new reforms being introduced require that companies that engage in the services of a contractor will need to assess whether the individual be categorized as an employee or self-employed for the purpose of determining taxes due. If the individual is categorized as a “deemed employee,” it will be the responsibility of the company to initiate pay-as-you-earn and national insurance.
In the past, this responsibility fell on the individual, however, most did not comply.
Who will the new IR35 affect?
The reforms for this legislation were introduced to the public sector in 2017, however, as of April 2020, will be introduced to the private sector for medium and large companies as well, allowing ample time for companies to comply with the new legislation.
To be considered a small company, at least two of the following criteria must not be exceeded (and therefore the IR35 will not apply):
- Annual turnover of 10.2 million GBP
- A balance sheet over 5 Million GBP
- More than 50 employees
If a company determines that the IR35 applies, then all workers that are paid through invoice as opposed to regular payroll will have to comply and determine that tax status of each contracted worker.
If an individual is considered “inside IR35,” they will be considered to be a regular employee and will have to pay tax as such as income tax and national insurance. However, this does not grant the individual entitlement to employee rights. In addition, there is an additional tax added for working inside the IR35 that must be paid at the end of each year.
On the other hand, individuals working as contractors are considered self-employed if they are deemed outside the IR35 and this will have no effect on them. In this case, it is the individual’s responsibility to make sure all taxes are calculated and paid.
How to determine if a contractor should be inside the IR35?
There are a variety of different factors that determine if one should be inside the IR35. Below is a list of factors to be considered when determining the IR35 status:
- The nature of the services provided – Is it personal or is it a B2B service being offered?
- How much control does the company have over the services being carried out by the contractor? Or does the contractor dictate how their service is being carried out?
- Is there any sort of obligation for the company to provide consistent work for the contractor? Is the contractor obligated to carry out this work?
- Is it possible for a substitute to do the work on behalf of the contractor?
- Is the contractor an integral part of the company?
- Does the contractor receive any benefits such as holiday pay?
- Who owns the equipment being used to carry out the work? The company or the contractor
- Is the contractor able to carry out other contracts for different companies?
Her Majesty’s Revenue and Customs (HRMC) has created Check Employment Status for Tax (CEST) to assist companies to help determine whether to consider their contractor as inside or outside the IR35.
If the contractor believes that the status is incorrect, they have the right to dispute their IR35 status. The company is obligated to answer with a ruling on whether the status of the worker remains. If concluded that the original assessment was incorrect, the company must list the reasons why within 45 days of receiving notification. If the company fails to respond in this time frame, the company becomes liable for paying the worker’s tax and national insurance.
As this legislation is complex and can be easily misinterpreted, it is common for a company (especially global companies working in the UK) to seek outside assistance as to the determination of a contractor being inside or outside the IR35 as it can potentially severely impact them should the wrong status be applied.