IR35 Consultation summary

HMRC recently published its consultation on the implementation of the IR35 changes to the private sector on 5 March 2019. The consultation introduces a number of proposals which could substantially increase the costs and administrative burdens of engaging contractors on a non-payroll basis.

HMRC have indicated that all changes made will also apply to the public sector going forwards.

What are the IR35 changes?

The IR35 legislation impacts arrangements where individuals provide their services via third party entities, primarily Personal Service Companies (PSCs). The IR35 rules were first introduced in the early 2000s, as a method of counteracting the tax advantages of engaging the individuals in this way.

Initially the rules were such that, where the underlying engagement constituted an employment relationship, the responsibility to account for the income tax and NIC due fell on the third party entity. Therefore, provided that the contractual arrangements were robust, there was a level of protection for the engaging entity.

HMRC perceived that these rules were not being applied correctly and have sought to shift the responsibility for managing compliance up the contractual chain. With effect from 6 April 2017, HMRC changed the IR35 legislation for public sector bodies as a precursor to the IR35 changes for the private sector.

The changes put the obligation to assess IR35 onto the ‘end user’ (the organisation to whom a contractor operating via a Personal Service Company (PSC) delivers their services) where they are a public sector body. IR35 status is then assessed via the normal, vague employment status tests for tax purposes built on many years of case law. Where this deems the contractor to be an employee then the ‘fee payer’ (either the end user or often an agency) must operate PAYE on payments to the contractor and their PSC.

What are the key messages of the IR35 consultation?

The “Small” business carve-out

One theme of the previous consultation was minimising the risks and administrative burdens for small businesses. As such, HMRC have sought to carve-out “small” businesses from the changes, meaning that these business can continue to pay contractors gross. The Government intends to use the companies act definition of “small” to determine whether a business will be caught by the rules.

Broadly, entities will not be caught where they meet two or more of the following requirements during a financial year:

• Number of employees: Not more than 50;
• Annual turnover: Not more than ￡10.2 million; or
• Balance sheet total: Not more than ￡5.1 million.

There are similar provisions where the entity is part of a wider group. HMRC are seeking opinions on how a “non-corporate” entity should be categorised as small – these will utilise the turnover and number of employees tests to determine if an entity would be caught by the rules.

Where an organisation ceases to be small in an accounting period, HMRC have indicated the off-payroll working rules will start from tax year following the end of the accounting period the entity did not meet the relevant conditions.

Information requirements

Currently, “end users” are responsible for determining the employment status of contractors and passing that determination to the party they contract with at the start of a contract. The party the client contracts with has a legal right to query that determination, to which the “end user” must respond within 31 days otherwise the liability will transfer onto the “end user”. However, there is no legal requirement for the determination to be passed further down the contractual chain to the fee payer who is responsible for operating PAYE.

The Government has set-out changes to this approach. They will legislate to ensure determinations are cascaded to all parties within the labour supply chain at, or before, the time they make the first payment in respect of the engagement. In addition, the “end user” will also be required to pass down their determination to the off-payroll worker directly. However, the Government is also considering “short-circuiting” the supply chain and requiring the “end user” to pass the determination directly to the fee-payer.

Addressing non-compliance

Currently, the public sector IR35 rules have limited scenarios whereby liabilities can be transferred in the event on non-compliance. HMRC have sought to extend these provisions to further assist compliance with the legislation.

In its consultation, in the event of non-compliance, Government proposes that any liability will first rest with the entity that has failed to fulfil its obligations. However, if HMRC are unable to collect the outstanding liability from that party then the liability would transfer to the first agency in the chain (i.e. the entity that contracts with the end user). However, if they still cannot collect the unpaid taxes due, then the liability would transfer to the “end user”.

From our round-table events, businesses were seeking to engage contractors via agencies to reduce the PAYE risks of engaging these individuals directly. Given the above proposals, utilising agencies in a contractual may not remove the PAYE risks from falling on end clients.

Taking reasonable care in making determinations

HMRC are seeking to introduce a client led-disagreement process, where contractors or fee-payers disagree with the determination made by end-users. Whilst the consultation has not fully fleshed out what the process will be, it expects end-users to consider the evidence provided by the contractor and/or fee-payer, advise the party of that outcome and the its reasons.

Given that there is no deterrent to disagreeing with an assessment, we envisage that a number of contractors could challenge the assessments made. Therefore, businesses should be considering their existing processes to determine what these "disagreement processes" could look like, particularly where a number of contractors are engaged.

Next steps

The first step for private sector employers is to understand if they will be within scope of the new legislation.

Next, understanding the extent, if any, by which an organisation is impacted will be crucial. Large employers in particular often don’t have clearly defined responsibility and processes for engaging contractors so it can be challenging to gain full visibility of the status-quo. Working through the complex and often ambiguous area of employment status for each contractor and how this will be monitored going forwards is then no mean feat.

At Grant Thornton, our approach is to build on our the work we’ve already done with the public sector on IR35, to draw on experiences across our client base and the ways in which we have best been able to assist them with the challenges, including:

• IR35 Readiness Check – review of contractors, processes, costs and recommended actions;
• Training staff on the new rules;
• Helping communicate the impact of the changes to contractors and stakeholders;
• Access to specialist advice via our IR35 Helpline; and
• Fully outsourced IR35 assessment and ring-fenced payroll service.

Please get in touch if you would like to discuss this further or for a copy of our IR35 brochure.