What is IR35?
IR35 is tax legislation that helps HMRC tackle a type of tax avoidance scheme by individuals commonly known as the “disguised employees.”
Disguised employees are contractors who provide their services to clients through an intermediary. The most common intermediary used by these contractors is their own limited companies. Still, there are other intermediaries such as partnerships, any limited company, or any individual who has the authority to act as the middlemen.
Why was IR35 introduced?
Initially, IR35 was introduced to the public in the year of 2000. This rule was established to target the contractors to ensure that they pay the same income tax and National Insurance Contributions as the employees in any organization. The only fundamental difference between employees and contractors is that the contractors use intermediaries when providing their services.
IR35 refers to the budget press release that took place on the 9th of March 1999. It stands for “Inland Revenue 35.” Inland Revenue represents the organization that is currently known as HMRC, and 35 represents the press number.
Who will get affected?
The individuals who will get affected by IR35 fall into three categories. They are as follows:
- A worker who uses an intermediary to provide his services
- An end client who receives services from a worker through their intermediary
- An agent who provides the workers’ services through an intermediary to a relevant organization.
INSIDE OR OUTSIDE IR35?
How is the IR35 status determined?
Suppose HMRC considers a working contract to be inside IR35. In that case, it means that the contract falls within the off-payroll working rules. The individual needs to pay the income tax and National Insurance contributions as they are an employee of an organization. If the contract is outside IR35, the individual is regarded as self-employed and is responsible for the business taxes.
Concerning the public sector contractors, the public sector they are currently providing services for is responsible for determining the individual’s IR35 status. Public sectors use two main ways to identify the IR35 status. The main two methods are either to use the tool introduced by HMRC, known as the Check Employment for Tax Tool (CEST) or to obtain service from an organization established for this purpose.
Concerning the private sector contractors, it was their responsibility to determine the IR35 status, but from April 2021, a new rule was introduced. As per the new rule, HMRC handed over this responsibility to the clients deemed medium and large-sized clients.
The size of the clients’ organization is based on the following factors:
- The turnover of the company
- The balance sheet total
- The total number of employees in that organization
After the IR35 status of the contractor has been determined, the client needs to provide Status Determination Statement (SDS) to the relevant contractor and the other parties.
The statement could disagree. In the event of disagreement, the client should respond to it within 45 days, stating the reason for deciding the IR35 status for the respective contractor. If the IR35 status of the contractor has been changed based on objections that were present at the time of disagreement, the clients should produce a new SDS and provide it to the relevant parties. This procedure is known as the “Disagreement Process.”
For both public and private contractors, certain aspects need to be considered by the decision-making parties before deciding the IR35 status of a contractor. The elements are as follows:
- Control – The degree of control the end client has over the contractor.
- Substitution – The ability of the contractor to assign his work to a third party.
- Mutuality of Obligation – Is it compulsory for the employer to offer work, and is it mandatory for the contractor to accept every assignment provided by the employer?
- Equipment – Whether the employer provides the equipment or not
- Financial Risk – The degree of financial risk that you undertake.
The contractor who works inside IR35 is an employee of the end client. The end client will have more control over the contractor’s actions during employment. The end client will provide the necessary equipment, and there will also be mutual obligations between the client and contractor.
Any person whose working contract falls outside the scope of IR35 rules is considered a self-employed individual. This specific individual can delegate the assigned work, and they also have the right to accept or reject the job offered by clients. There is no obligation between the client and the contractor in these circumstances.
How will the IR35 have an impact on the contractors?
The contractors, who fall within the off-payroll working rules, are considered as employees in the eyes of the law. Even though they are viewed as employees and required to pay the income tax and national insurance contributions as employees, they will not enjoy any employment benefits such as a holiday or sick leave.
Even though working inside IR35 has the disadvantages mentioned above, it also has many benefits. The benefits are as follows:
- When working as an employee, they are only entitled to a salary. Individuals are entitled to salaries and dividends when services are provided through an intermediary such as a limited company. And it also allows you to reclaim VAT on expenses that exceed £2000, which an individual makes on behalf of the limited company.
- It gives the relevant individual an option to work for contracts, which are inside and outside IR35.
- When the contractor works through an umbrella company, the income tax is paid on 95% of the total income earned instead of 100% since HMRC provides 5% to help with the organization’s running costs.
You might have to pay close attention when you have contracts that fall both inside and outside IR35 in the same tax year as they have a high probability of causing significant risks which may result in a high tax bill if you do not obtain professional advice.
That is why we at WIS Accountancy are here to help you understand the solutions that best suit your company and provide you with the most economical advice to ensure your success.