There is a huge amount of information available about IR35 and how to protect yourself. But what happens if you are actually selected for an investigation? How does an IR35 enquiry work and what should you expect if HMRC has lined you up as a target?
1. The Initial HMRC Letter and Response
The vast majority of IR35 enquiries begin with what at first glance looks like an unremarkable letter from HMRC, titled ‘Check of employer records’. In it, they will state that they have selected your company for a ‘check’, but make no mention of IR35 until a later paragraph.
Seb Maley from IR35 status experts Qdos Contractor, says that contractors need to ensure the response to this letter is very carefully worded: “HMRC ask whether you have considered IR35 and, if so, why you have concluded that you are outside the legislation. It is vital at this stage to provide them with strong, accurate evidence that proves you are not caught by IR35.
“If a detailed and satisfactory response can be given at this stage, there is a chance HMRC will accept that without further question. The likelihood is, however, that they will want to dig deeper into the contractor’s IR35 position”.
If you have any form of tax enquiry cover you should contact your insurer or provider before responding to this letter, as it is preferable for an expert to handle all correspondence with HMRC from the outset.
2. The Back and Forth Arguments
This is the lengthy part of an IR35 enquiry. If HMRC do not accept the evidence you present in your initial response, they will want to carry out an in-depth review of your situation. This means analysing your written contracts, working practices and engaging with your end user to try and find out the ‘true facts’.
There are many potential pitfalls in this period and it is highly advisable to use the services of an IR35 specialist so you are not unwittingly caught out.
“One of the first things HMRC will want to do is meet with the contractor,” says Seb Maley.
“Commonly it will be two compliance officers and they will be delving into the contractor’s actual working and business practices”.
“It is important to note that HMRC cannot demand a meeting and the contractor can request to deal with HMRC’s questions by correspondence. However, if you have an IR35 consultant acting on your behalf, a meeting is likely to significantly speed up the process”.
If HMRC are still not satisfied they will contact your end client. This can be quite dangerous.
Maley explains: “HMRC will often send a very lengthy questionnaire to the end client, asking numerous questions about how the contractor works and is treated. The risk, particularly with larger organisations, is that this will end up with the legal or HR department who will have little knowledge of how the contractor works or, indeed, the IR35 legislation.”
“If the end client inadvertently puts their foot in it, it’s very difficult to recover from. This is why any interaction between HMRC and the end client should be carefully managed, with correspondence checked and clarified by someone who knows what they’re doing”.
In the past, this section of an IR35 enquiry has been very long and protracted, with some cases lasting several years. Thankfully though, as part of HMRC’s revised approach to IR35, new enquiries are much quicker and the Revenue seem genuinely keen to close them down in as short a time as possible.
Once HMRC have spoken to all parties and seen all of the evidence they will make a final decision on the status of the contract. If they decide that it is outside IR35 then that’s the end of the investigation and the contractor can get on with their life.
If they say you are inside IR35 they will make their demand for the retrospective PAYE tax and National Insurance, plus interest and a possible penalty.
At this stage, the contractor has a right to appeal against the decision. The first step to consider is HMRC’s ‘Alternative Dispute Resolution’ service, where the case is independently heard by an inspector not involved with the original enquiry. Beyond this, the case can be progressed to Tax Tribunal (formerly Commissioners’ Hearings) and then the civil courts.
Going down this route is likely to be very expensive though, which is why it is so important for contractors to set their stall out in advance of any enquiry so they are adequately forearmed.