As an aspiring professional contractor, the biggest potential hurdle to your future prosperity comes in the form of the Intermediaries Legislation, commonly known as ‘IR35’.
Background to IR35
This piece of tax legislation, named after the Inland Revenue press release which first announced the Government’s plans to clamp down on ‘disguised employment’, was implemented in 2000, and is as controversial today as it was at the turn of the century.
Before IR35 was created, the number of contractors working via their own intermediaries (personal limited companies) was rising at a rapid pace. Limited company owners can enjoy a number of tax benefits which are not available to permanent staff – the main benefit is that no National Insurance Contributions (NICs) are payable on company dividends. Traditional workers have to pay income tax and NICs on their entire salaries.
At the time of the implementation, the Government believed that many limited company professionals were, in fact, ‘disguised employees’, who provided services to their clients in the same fashion as normal employees, and not in the manner of typical ‘self-employed’ people who used their own limited companies.
As a result, the Intermediaries Legislation was created to tackle cases of so-called disguised employment. If an individual’s contract is deemed to be caught by IR35, then the turnover from that contract will be subject to standard PAYE income tax and NIC rules. The potential tax loss is significant.
The law which governs ‘IR35’ is contained within Section 8 of the ITEPA 2003 – Income Tax (Earnings and Pensions) Act 2003, and the Social Security Contributions (Intermediaries) Regulations 2000 – SI 2000/727.
You can find out more about the history of IR35 in our timeline.
IR35 and the ‘off-payroll’ rules
The most significant change (or addition) to the IR35 rules since 2000 took effect from April 2017, when public sector contractors became subject to new ‘off-payroll working’ rules.
Instead of self-certifying your IR35 status, it is now up to the engager (client) to determine whether or not your contract is subject to IR35 or not. If it is, then the client is responsible for deducting any income tax and National Insurance Contributions from your gross pay.
This change has caused great concern within the industry – both for contractors and clients. You can find out about the new IR35 public sector rules here.
At the October 2018 Budget, the Chancellor announced that the off-payroll rules will be extended to the private sector from April 2021 onwards. From this date, unless your client is a ‘small company’, your contract will be subject to the off-payroll rules.
The law which governs the off-payroll rules is contained within Section 10 of the ITEPA 2003 – Income Tax (Earnings and Pensions) Act 2003.
Although the off-payroll rules are governed by Section 10 of the ITEPA 2003, and the original IR35 rules are incorporated into Section 8, these combined rules are typically referred to as ‘IR35’.
Do you fall within the IR35 net?
If you are selected for an HMRC IR35 compliance check, both the wording of your contract and the way you actually carry out the contract (your working practices) will be examined to determine whether you are ’employed’ or ‘self-employed’ for tax purposes.
There are a large number of factors to consider when creating the overall picture of a contractor’s employment status. The key question HMRC asks is: would the individual be an employee were it not for the existence of the intermediary (the limited company)?
Some of the main pointers include:
1. Control – is the contractor under the direct control and supervision of the client?
2. Substitution – is the contractor permitted to provide a substitute if they are unable to work?
3. Mutuality of Obligation – is there the expectation of future contract work when the current one expires?
Alongside these, and other factors, the actual way you perform your contract duties should also demonstrate that you are not a ‘disguised employee’.
Find out more about these, and other pointers, in our detailed guide to IR35 compliance.
Clearly, to almost all contractors, particularly first-timers, the IR35 (and off-payroll) rules can seem daunting, however, an entire industry has evolved since the year 2000 aimed at protecting contractors from the IR35 trap.
What is the financial cost of IR35?
If your contracts are caught by IR35, the financial consequences are significant. For example, a typical contractor on £350 per day, working 44 weeks per year, could be over £8,000 worse off if caught by IR35.
Try our IR35 calculator and enter your daily rate to find out more.
How to protect yourself from IR35
If you are considering contracting via an umbrella company, then IR35 is not an issue, as you will pay standard tax and NICs on your income.
If you are a limited company contractor or thinking of setting up as one, you should take steps to mitigate your risk of being selected for an IR35 investigation.
1. IR35 contract reviews – always have your contracts reviewed by an employment status specialist. They will typically examine both the contract wording and your working practices and let you know if you are likely to be caught by IR35. The specialist may be able to provide changes to the proposed contract and liaise with your agency to put the changes into practice. Find out more here.
2. IR35 insurance – you can also take out tax investigation insurance which will cover the costs of professional representation in the event of an IR35 compliance enquiry. You can even take out cover to protect yourself against any penalties, or back taxes. IR35 insurance tends to be very competitively priced, and certainly less than £200 per year. You can find out more here.
As a first step, try Qdos, who have offered IR35-related services since the rules were first implemented.
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- Switch between umbrella and limited - flexible solution from Nixon Williams for contractors who may be affected by the Off-Payroll changes.