What is IR35?

Let’s put it into perspective. If an employee leaves work on a Friday and returns to work on Monday to carry out the same role as a contractor, saving the company money on tax, this is when IR35 comes into play.

As a result of changing rules around IR35, HM Revenue & Customs have developed a Check Employment Status for Tax tool (CEST), previously known as the Employment Status Service (ESS).

The digital IR35 tool determines whether the legislation applies to a contract, whether the worker should pay tax through PAYE and whether off-payroll working rules should apply to a public-sector engagement.

If you fall foul of IR35 legislation, the financial ramifications can be significant, so it’s important to understand how it works.

When undertaking an IR35 assessment, there are two classifications which can be determined:

It’s not your business that can be inside IR35, but the contracts you undertake. Operating through a limited company can still be a very tax-efficient way to run your business because not all projects will fall within IR35 and you can get the benefits of this structure.

There are several ways to verify that you’re an employee, not a contractor, as IR35 can be determined through several status tests based on historical case law which are applied to your written contract and working practices.

If you’re a genuine contractor, freelancer or consultant who’s in business on your own account, then it is likely that your engagements will fall outside IR35. It’s still important to be aware of the legislation and any potential changes to it, since you may have to prepare a defence if HMRC wishes to investigate.

If you want to know more about this, we’ve written a guide on HMRC IR35 investigations and what you need to know.

If you, on the other hand, possess the same benefits, responsibilities, and control as a permanent worker, then it’s highly possible that you’re inside IR35. This is because there are several factors you can keep in mind to check whether or not you’re a self-employed contractor and are inside IR35, including:

• Control – are you under the direct control and supervision of your client? A contractor is not supervised like an employee is.

• Substitution – are you allowed to provide a substitute if you’re unable to work? If not, then HMRC would consider this to be an indicator of a contractor of employment.

• Mutuality of obligation – are there any expectations of future contract work after the current one expires? A self-employed contractor will work on a specific project that they’ve been contracted to do but there should be no further expectation of work by either side.

At Gorilla Accounting, we work closely with Larsen Howie, the specialist IR35 Contract Review provider for contractors, freelancers and consultants. For a breakdown of what's included in the IR35 Review and the discounted cost, please visit our dedicated page for IR35 advice.

This is the ideal scenario for a contractor operating through their own limited company. If your contract lies outside IR35, you will not pay National Insurance contributions or income tax. As a result of your status, operating through a limited company is likely the most tax-efficient structure for your business.

The public sector changes came into play in 2017 despite disagreements from the sector. Since their introduction, IR35 has received wide-scale criticism.

Contractors find it confusing, and policymakers don’t believe it’s effective.

The IR35 reform contributed towards mass walkouts after the tax status of contractors changed, with many waiting to leave after contract end dates. As a result of this, the completion date for many government projects faced massive delays, including the NHS.

In addition, the political landscape has changed significantly since its introduction and ministers have sought to blur the respective definitions of tax avoidance (legal) and evasion (illegal). It can, therefore, be said that a change in policy in this area is long overdue.

HMRC introduced a service to find out if you, or a worker on a specific engagement, should be classed as employed or self-employed for tax purposes. The CEST tool gives HMRC’s view on whether:

• IR35 applies to an engagement

• the off-payroll working in the public sector rules apply to a public sector engagement

• a worker should pay tax through PAYE for an engagement

The unprecedented IR35 reform in the public sector has been the subject of disagreement as the CEST tool has been responsible for delivering confusing results. Around 15% of CEST users have received inconclusive results on their employment tax status.

HMRC states that, in order to use the CEST, the following information will be required:

• the worker’s responsibilities

• who decides what work needs doing

• who decides when, where and how the work’s done

• how the worker will be paid

• if the engagement includes any benefits or reimbursement for expenses

The answers should reflect the usual working practices of the engagement.

There is a worry that, because the responsibility for employment status determination will fall to both the contractor and the end user, private sector businesses will start to take a more cautious approach and label their contractors within IR35 to be on the safe side.

This is because they would be liable for tax payments if the contractors were caught within IR35.

In addition, not every organisation or business in the private sector is aware of the new IR35 changes, so many have not yet prepared for the new rules.

A great number of employers are also concerned that they’re going to miss out on skilled contractors due to this IR35 reform.

Companies must be aware of their new responsibilities if they plan on hiring contractors after 6 April 2020. This includes ensuring everyone in the company understands IR35 and its consequences (especially HR and recruiters) and executing an approach for the assessment of potential workers, mainly their employment status.

They should also have contingency plans in place if workers don’t want to switch to PAYE and implement processes like substitution into your operations.

As a contractor, there are several ways you can start preparing for the upcoming IR35 reform in the private sector. These include:

• Taking the HMRC IR35 test, which will allow you to assess your current business practices.

• Auditing your work practices after the test results, allowing you to assess how IR35 will impact you and how you can solve potential problems.

• Taking ‘substitution’ into account, as the right to provide a substitute is often a key component in IR35 investigations.

• Considering raising your rates, as working inside IR35 means paying more taxes than you initially thought.