If you provide some kind of personal service to just one “customer” you may have heard your accountant use the phrase “IR35.” But what does this phrase mean? In this week’s article we will explain to you what IR35 means, how it may affect you, and the consequences for non-compliance.
What is IR35?
IR35 stands for “Inland Revenue press release number 35” and was given the title “Countering Avoidance in the Provision of Personal Services.” The press release was made during 1999, and came into force in April 2000.
What is the purpose of IR35?
The IR35 legislation was introduced in order to crack down on tax avoiders through the use of personal service companies. Put simply, it was introduced to tackle two big tax avoidance issues:
- Large companies avoiding the payment of employers NI and other employment taxes by claiming that the people who worked for them are self employed contractors and not actually company employees.
- Individuals avoiding the payment of income tax and national insurance contributions by invoicing their contractors through a limited company, and then drawing dividends from that company.
How does the legislation work?
HM Revenue & Customs (Inland Revenue at the time) gave themselves the right through this IR35 legislation to re-assess the relationships between limited companies and their “self employed subcontractors” in order to bring to light those individuals who are actually employees being disguised as self employed. They assess the relationship using what they class to be the key employment criteria.
What are the main assessment criteria?
HMRC place focus on the following areas in order to establish whether an individual is genuinely self employed or whether they are technically an employee:
- Exclusivity of Contractor – Is the individual tied to the one company?
A genuinely self employed individual will have a number of customers / clients that they provide services for. If an individual works exclusively for only one company HMRC will see this as an employment trigger.
- Personal Service : Right of Substitution – Can the individual send a replacement?
If the individual is ill or on holiday, is it acceptable for them to send a representative to perform the services in their absence? If the company does not allow for a representative of the business to come and perform the role in an individual’s absence then HMRC may question whether the relationship between the individual and the company as being more than just about a service provider.
- Obligation to Provide Work – Is the company obliged to provide the individual with work?
An employer pays an employee a salary / wage for their working hours. It is the obligation of the employer to find them work to do whilst they are there. Hence if the company is obliged to provide the individual with work to do, then this would trigger HMRC to believe this person is actually an employee.
- Right of Control – Does the company control the actions of the individual?
If a company has the right to control where, when and how an individual carries out their work, then HMRC will look upon this more as an employer / employee relationship. A genuinely self employed individual is able to set their own working hours, decide their own method for completing a task, and deciding where that task will be performed.
- Employee Benefits – Does the individual receive the same benefits as other employees?
If a company provides certain benefits to its staff (for example, staff discounted products or a staff Summer / Christmas party), HMRC would usually assess whether the individual in question is also entitled to these benefits. Generally speaking, self employed contractors do not share the same benefits or perks as genuine employees.
The consequences of non compliance
If HMRC determine that an individual is in fact a “disguised employee” then the employer will be forced to pay over the tax and national insurance contributions which would have been payable had the individual been put on the payroll from day 1.
In addition to having to pay this unpaid tax, hefty fines are also imposed on the employer:
|Employer has been careless||30% of unpaid tax|
|Deliberate underpayment by employer||70% of unpaid tax|
|Deliberate underpayment and attempt to conceal by employer||100% of unpaid tax|
Essentially the message here is to take care and be extra vigilant when it comes to contractor arrangements. There needs to be a clear divide between the working habits and treatment of employees when compared to any sub-contractors in your organisation.
Additional guidance for these regulations can be found on the HMRC website, and there are also online tests you can take to check if an individual should be put on the payroll or not under the IR35 regulations.