With the IR35 rules being reformed within the private sector from April 2020 (essentially mirroring the changes introduced to the public sector back in April 2017), there is a great deal of uncertainty, not only about how the rules will work, but also how the engaging business (“the company”) will practically operate the new legislation.

The reform will shift the onus for determining whether a freelance contractor is truly freelance or a full-time employee to the company who pays the personal service company, either directly or (if they are involved) via a recruitment business. HMRC is on the lookout for what it considers “disguised employment”.

The controversy is that contractors who are considered to fall within IR35 are taxed as an employee, often at the higher rate of income tax, but do not get benefits like paid annual leave or sick pay.

Additionally, where the company determines that the IR35 applies, the company will be responsible for deducting income tax and employee’s national insurance contributions (NICs) from fees paid and ensuring the contractor is paid correctly under the legislation.

With less than 12 months to go until these changes come into force, it is important that companies who engage contractors through personal service companies (PSCs) understand what practical steps they can take now to prepare in advance.

How to prepare in advance:

Contact current PSCs

Companies should liaise with their current recruitment businesses and PSC contractors to ensure they are aware of the recent changes and to discuss whether the IR35 rules apply to them. If a recruitment business is being used, such discussions should take place with them.

By starting a dialogue now, companies will have a much better chance of setting IR35 statuses accurately and remain compliant with the rules.

Review documentation and evidence

When engaging with PSC contractors either directly or through a recruitment business, it is worth gathering/requesting evidence and information which can prove that contractors are genuinely self-employed and therefore fall outside the IR35 rules. Proof could include documents that show that:

• The contractor has the right to provide a substitute;
• They do not work under the direct control of the company;
• They are not obligated to carry out the work; and
• They are not “part and parcel” of the company’s organisation.

It is also worth having documentation in place which outlines that each party in the supply chain confirms the contractor falls outside of the IR35 status. This can be key when providing evidence to the HMRC should an IR35 enquiry arise. The agreement should outline the specific reasons that your working arrangement belongs outside IR35.

In addition, companies should also re-visit their current contracts to ensure they are compliant with the upcoming IR35 rules and seek specialist advice should they need amending.

Implement processes and procedures

• Companies will want to consider who in their organisation will be responsible for determining the status of contractors they engage with and how payments will be made to them.
• Companies might need to consider whether they have suitable payroll systems to facilitate and process invoices correctly, considering whether tax and NICs apply.
• Companies should consider investing in their IT programs/equipment and ensure that those responsible for operating them are trained and ready when the new legislation kicks in.

Under the new rules, companies will also be obliged to have in place a dispute resolution procedure which meets minimum criteria set by Government, to allow for determinations to be challenged and for contractors to exercise their rights to seek written reasons for their status determination.

Understand who is liable if tax and NICs are not paid

The basic position is that the entity which pays the PSC contractor will be liable in most situations, which could be a recruitment business if one is used.

However, to encourage compliance with the changes, the new proposals provide that liability for paying tax and NICs can be transferred in certain circumstances, for example, where the fee payer is an offshore business, if the worker provides fraudulent documentation, or if HMRC is unable to collect payments due from the relevant party. Ultimately, any party in the supply chain could potentially be liable.

Essentially, HMRC will have the right to transfer tax liabilities up the supply chain until they find someone who can pay.

Recognise exemptions from IR35 rules

The IR35 does not apply to companies that are classed as “small” organisations. They will therefore not be affected by the reform and will not need to determine the status of the contractors they engage. An organisation is considered small if two or more of the following conditions are met:

• Annual turnover is not more than £10.2 million.
• Balance sheet total is not more than £5.1 million.
• Total number of employees is not more than 50.

Chris Cook is partner and head of employment and data protection at SA Law

Further reading

Government fails freelancers as it presses for IR35 rules

With the IR35 rules being reformed within the private sector from April 2020 (essentially mirroring the changes introduced to the public sector back in April 2017), there is a great deal of uncertainty, not only about how the rules will work, but also how employment businesses will practically operate the new legislation.

IR35 puts the onus for deciding whether a freelance contractor is truly freelance or a full-time employee on the recruitment agency. HMRC is on the lookout for what it considers “disguised employment”.

The controversy is that contractors who are considered to fall within IR35 are taxed as an employee, often at the higher rate of income tax, but do not get benefits like paid annual leave or sick pay.

Additionally, employment businesses will be responsible for deducting income tax and employee’s national insurance contributions (NICs) from fees paid, regardless of whether their client pays its bill.

With less than 12 months to go until these changes come into force, it is important that employment businesses who engage contractors through personal service companies (PSCs) understand what practical steps they can take now to prepare in advance.

How to prepare in advance:

Contact current PSCs

Employment businesses should liaise with their current PSC contractors to ensure they are aware of the recent changes and to discuss whether the IR35 rules apply to them.

By starting a dialogue now, employment businesses will have a much better chance of setting IR35 statuses accurately and remain compliant with the rules.

Review documentation and evidence

When engaging with PSC contractors, it is worth gathering/requesting evidence and information which can prove that contractors are genuinely self-employed and therefore fall outside the IR35 rules. Proof could include documents that show that:

• The contractor has the right to provide a substitute;
• They do not work under the direct control of the employment business;
• They are not mutually obliged to carry out the work; and
• They are not “part and parcel” of the employment business’s organisation.

It is also worth having documentation in place which outlines that each party in the supply chain confirms the contractor falls outside of the IR35 status. This can be key when providing evidence to the HMRC should an IR35 enquiry arise. The agreement should outline the specific reasons that your working arrangement belongs outside IR35.

In addition, employment businesses should also re-visit their current contracts to ensure they are compliant with the upcoming IR35 rules and seek specialist advice should they need amending.

Implement processes and procedures

• Employment businesses will want to consider who in their organisation will be responsible for determining the status of contractors they engage with and how payments will be made to them.
• You may also want to consider whether you have suitable payroll systems to facilitate and process invoices correctly, considering whether tax and NICs apply.
• And recruitment agencies may want to consider investing heavily in their IT programs/equipment and ensure that those responsible for operating them are trained and ready when the new legislation kicks in.

Under the new rules, employment businesses will also be obliged to have in place a dispute resolution procedure which meets minimum criteria set by Government, to allow for determinations to be challenged and for contractors to exercise their rights to seek written reasons for their status determination directly from the employment business.

Understand who is liable if tax and NICs are not paid

The basic position is that the entity towards the bottom of the supply chain which pays the PSC contractor (i.e. the employment business) will be liable in most situations.

However, to encourage compliance with the changes, the new proposals provide that liability for paying tax and NICs can be transferred in certain circumstances, for example, where the fee payer is an offshore business, if the worker provides fraudulent documentation, or if HMRC is unable to collect payments due from the relevant party. Ultimately, any party in the supply chain could potentially be liable.

Essentially, HMRC will have the right to transfer tax liabilities up the supply chain until they find someone who can pay.

Recognise exemptions from IR35 rules

The IR35 does not apply to employment businesses that are classed as “small” organisations. They will therefore not be affected by the reform and will not need to determine the status of the contractors they engage. An organisation is considered small if two or more of the following conditions are met:

• Annual turnover is not more than £10.2 million.
• Balance sheet total is not more than £5.1 million.
• Total number of employees is not more than 50.

Chris Cook is partner and head of employment and data protection at SA Law

Further reading

Government fails freelancers as it presses for IR35 rules