IR35 in the Private Sector: What you need to know

What is IR35?

IR35 (off payroll working) Rules are designed to address the loss of tax revenues from individuals supplying their services through an intermediary, usually a Personal Service Company (PSC) and to assess whether a contractor is a genuine contractor rather than a “disguised employee” for the purposes of paying tax. Contractors supplying their services through a PSC typically pay themselves predominantly in dividends rather than salary; therefore, both the individual and the user of their services benefit from a more favourable tax regime – a regime that avoids employee income tax (PAYE) and employer and employee National Insurance contributions.

In 2017, HMRC introduced the off-payroll working rules in the public sector. The off-payroll legislation imposed an obligation on the public sector body to determine the status of a contractor and whether they would be regarded as an employee of the client were it not for the contractor’s PSC being in the contractual supply chain. – i.e whether they would be deemed to be ‘inside IR35’.

Presently, within the private sector, the contractor providing services through their own PSC is responsible for deciding whether IR35 applies and if the assignment is ‘inside IR35’. However, this is all about to change. As of April 2020, the IR35 reforms seen within the public sector in 2017 will be extended to medium and large organisations in the private sector. In doing so, it is estimated to raise ￡1.1 billion for the Exchequer in the first year. Ultimately, it will now mean that it will be the end users within the private sector, not the contractors, who will be responsible for determining whether IR35 applies. This process is referred to as the ‘status determination’.

How will a role be deemed to be inside IR35?

HMRC is urging firms to use the Check Employment Status for Tax (CEST) tool to assist in the status determination process. Put most simply, if there is evidence that a contractor has similar working conditions and responsibilities as an employee of the client, that there is evidence of supervision, direction or control and the contractor does not have a right of substitution, then they are likely to be classified as “inside IR35” and the off-payroll working rules will apply. 

The key factors that determine a contractor’s IR35 status, at this point in time, are as follows:

•  Substitution
• Control and direction
• Financial risk
• Mutuality of obligation

Whilst HMRC is not obliged to support any result given by CEST, it has said that unless a compliance check finds the information provided by firms when using CEST is not accurate, then the result will stand.

Having made its status determination (i.e. inside or outside of IR35), the end user will need to pass a status determination statement (SDS) to the individual worker and, where the worker is supplied through a more complex supply chain and there are other entities between the end user and the contractor (i.e. an agency, for example), the entity immediately below the end user in that supply chain must be notified. All entities involved in the supply of a contractor should be notified of the status determination.

The SDS must outline whether the firm has concluded that the contractor should be treated as an employee for tax purposes (inside IR35) or not (outside IR35), and the justifications for the decision.

Outside IR35:

If a role or contractor is deemed to be ‘outside of IR35’, the previous rules apply, and the contractor does not need to be taxed at source as though they are an employee for tax purposes.

However, when an end client makes a status determination that an assignment is ‘outside of IR35’, they will need to ensure that reasonable care was taken during the decision-making and that the decision itself is reasonable. If HMRC find an ‘outside IR35’ determination to be incorrect, the liability will sit with the fee-payer (typically the agency if the end client has engaged an agency for their search), unless the end client has not exercised reasonable care. In the event of an end client failing to exercise reasonable care in making the status determination, the SDS will be invalid and the end client will be liable for the contractors’ tax and national insurance contributions.

Fundamentally the liability will flow down the supply chain once each party completes its obligation to pass the SDS to the next party in the chain.

Inside IR35:

If the SDS states that the contractor will be deemed to be inside IR35, the “fee payer” (i.e. the entity that pays the contractor’s PSC) will be obliged to deduct and account for tax and NIC. Therefore, the contractor will need to be taxed at source as if they were an employee.

Contracting Post IR35 in the Private Sector:

If a role is deemed to be “inside IR35”, you ARE still able to hire a contractor, or work as a contractor, but you need to ensure that you are working with an agency who can provide you with an appropriate off-payroll model which ensures the contractor will be taxed at source as required by the new IR35 rules.

The upshot is that it is not all ‘doom and gloom’, nor will this be the death of the contracting market in the private sector. As this topic is an extensive one and considerations differ for Clients and Contractors, Jameson Legal/ Jameson Contract Solutions will be releasing separate tailored articles outlining the various solutions, considerations and/or conversations you need to be having in order to navigate the post-IR35 private sector contract market.

 Jennifer is a Senior Consultant at Jameson Legal.

Jennifer specialises in placing lawyers on an interim and contract basis into Private Practices throughout the UK to include London and the Regions

[email protected]