Can HMRC investigate past contracts retrospectively under IR35?

When the private sector off-payroll rules came into force in April 2021, some ‘outside IR35’ contractors were forced to work ‘inside IR35’ because their clients were reluctant to take on the risks of making incorrect employment status decisions.

Dozens of major contractor hirers had already decided to stop using limited company contractors altogether, whereas others continued to hire PSCs but were reluctant to declare their workers as being ‘outside IR35’.

But what happens if you worked for a client via your own limited company (outside IR35) for several years, only to be told that you could continue working for them if you accepted inside IR35 status?

If you accepted this new status, didn’t this imply that, for the duration of your previous contracts with the same client, you should always have been operating within the IR35 rules?

This was a major concern for contractors in the run-up to the reforms, and it remains a relevant question for anyone worried about an HMRC investigation into past contracts.

What does HMRC say?

HMRC repeatedly said in the run-up to the reforms that it wouldn’t use information collected under the off-payroll changes to take retrospective action against individuals unless fraud or other criminal behaviour was suspected.

This statement appeared in a ‘contractor factsheet’ published in January 2020 and was subsequently incorporated into HMRC’s official guidance.

The Employment Status Manual (ESM10036) confirms that HMRC will not use information acquired through the reforms to open new compliance checks into tax years before 6 April 2021, except where there is reason to suspect fraud or criminal behaviour.

This includes Status Determination Statements (SDSs) which were prepared for the original April 2020 implementation date, before the reforms were deferred until April 2021 because of COVID-19.

HMRC also says it will not ask for SDSs prepared for 2020/21 as evidence in existing enquiries, although it may use the information if it is provided.

What’s the problem?

The problem is a massive lack of trust in HMRC within the contracting industry, not only because of the IR35 rules, which have plagued contractors for more than two decades, but also because of the scandalous Loan Charge.

The Loan Charge was introduced to recover tax associated with loan-based remuneration schemes used in previous tax years. The measure’s retrospective effect, and HMRC’s pursuit of individuals who used these arrangements, attracted widespread criticism.

Over 50,000 people were believed to have been affected by the original legislation, with many arguing that HMRC should have concentrated more of its efforts on the promoters of such schemes.

What’s to stop HMRC deciding to investigate contractors who worked on an outside IR35 basis in the past, but were subsequently forced to accept an inside IR35 determination?

Well, HMRC’s assurance is specific to information collected as a result of the off-payroll reforms. It doesn’t prevent the taxman from investigating previous contracts for other reasons.

And, importantly, these assurances were published as HMRC policy rather than incorporated into the legislation itself.

How far back can HMRC investigate?

Although HMRC says it won’t use the 2021 reforms as a reason to investigate earlier contracts, it can still examine a company’s historic tax affairs under its normal enquiry and assessment powers.

For Corporation Tax, the standard assessment time limit is four years from the end of the relevant accounting period, extending to six years where a loss of tax was caused by careless behaviour.

If HMRC believes that the loss of tax was caused deliberately, the period can extend to 20 years.

These are assessment limits rather than universal deadlines for opening or concluding enquiries. Other rules can apply where HMRC has already opened an enquiry, or where different taxes are involved.

You can read the details in HMRC’s guidance on Corporation Tax assessment time limits.

‘Normal’ IR35-related enquiries are retrospective in nature

Seb Maley, CEO of Qdos, made an important point when the changes were first announced, relating to HMRC enquiries which were not connected to the new status determinations.

As Maley explained at the time, HMRC’s commitment didn’t mean it would stop opening retrospective enquiries that had nothing to do with a decision made by the end-client.

After all, most IR35 enquiries are retrospective by nature, as HMRC is looking at contracts and working practices from earlier tax periods. See our guide to what happens during an IR35 enquiry.

The assurance was therefore welcome, but it wasn’t a reason for contractors to assume that their previous engagements were beyond HMRC’s reach.

It’s also worth remembering that an inside IR35 determination made by a client in 2021 doesn’t automatically prove that a contractor was inside IR35 in previous years.

The terms of the engagement, and how the contractor actually carried out the work, may have been different.

What can you do to protect yourself?

Despite the understandable lack of trust, HMRC’s published assurance remains in place.

Following publication of HMRC’s policy paper in October 2019, Jon Stride, then Co-Chair of the ATT’s Technical Steering Group, welcomed the government’s approach, describing the threshold for retrospective action as a high one.

However, as mentioned above, the assurance isn’t written into the legislation.

So, to cover yourself further, we recommend that you can demonstrate that you took reasonable steps to establish your IR35 status when you entered into previous contracts.

• Be familiar with what IR35 and the off-payroll rules are, and how they operate in practice.
• Keep copies of your previous contracts, including any extensions, and correspondence which helps establish the working arrangements agreed with your client.
• Make sure you can demonstrate that you were working ‘in business on your own account’ – i.e. in the manner of a business person, rather than an employee.
• Undertake professional reviews of both your contracts and working practices, particularly where your company is responsible for determining IR35 status. This includes engagements covered by the small company exemption.
• Consider asking for a Confirmation of Arrangements document to be drawn up, recording how the parties intended the engagement to operate. Such documents can be useful evidence, provided they reflect the actual working practices.
• Consider taking out appropriate IR35 tax investigation insurance, if available, to help meet the costs of professional representation should HMRC decide to look into your tax affairs. Check whether past contracts are covered before buying a policy.

If HMRC does open an enquiry into one of your previous contracts, the fact that you subsequently worked inside IR35 for the same client shouldn’t, by itself, determine the outcome.

Your previous contractual terms and actual working practices will still be relevant, and it’s worth having the supporting paperwork available if the taxman comes knocking.