As a limited company contractor, we know that you’ll need to get your head around a number of different rules and regulations. One of the most important, and arguably the most complicated pieces of legislation you'll come across is IR35. Don’t worry though, as we're here to help you understand what IR35 is.
We’ve produced this useful guide that outlines the important points you’ll need to know.
Here's a list of what the guide includes:
- What's it all about?
- What are the key factors to look out for?
- What steps can I take to stay within HMRC's guidelines?
- What if IR35 applies to my assignment?
- IR35 myth buster
In 2000, a number of stories appeared in the media about public sector employees resigning from their jobs only to come back to work as a limited company – something known as false self-employment.
The government was also worried that people were starting up limited companies just to take advantage of their tax-efficiency, even though they were carrying out the same jobs as permanent employees. To sort this out, IR35 was introduced.
As a contractor, you’re likely to take on a mixture of assignments during your career. Some will be inside of IR35 and others won’t. It’s important to remember that the rules are designed to ensure that you pay tax and National Insurance in the correct way, not to determine the type of project you work on.
IR35 is applied on an assignment-by-assignment basis, meaning you need to pay the correct amount of Income Tax and National Insurance for every project you work on. It will also mean that you won’t be able to claim for certain expenses.
What are the key factors to look out for?
To judge if an assignment falls inside or outside IR35, HMRC will assess the project against a number of different criteria. If you want to stay outside IR35, it’s important that your assignment doesn't show signs of the following:
As a contractor, you’ll be expected to have complete autonomy about the way you conduct your assignment. If your client imposes a level of control over you, it’s likely the project will fall within IR35.
One of the ways you can be controlled by a client is if they start setting you work that is outside the remit of your assignment, or if they continuously check and sign off your work. In addition, you shouldn’t be expected to work at set times or for a set number of hours.
2. Mutuality of obligation (MOO)
In a "traditional" employer-employee relationship, you’d be expected to accept and carry out tasks given to you by your line manager. The business has to assign paid work for you to do and can ask you to perform additional duties that go beyond your core job role.
As a contractor, you should only work with the client on a contract-for-service basis, carrying out a particular task or delivering a set project. Once complete, you can either move on or accept another assignment if one is available. If this happens, you’ll need to negotiate and sign a brand new contract.
3. Personal service
This is a particularly important factor, as it’s widely thought of as a "silver bullet" that will place you outside IR35. That’s because if you can prove that personal service doesn’t exist in your project, you’re unlikely to be viewed as a permanent employee by HMRC. Put simply, a lack of personal service means that you wouldn’t necessarily have to carry out the work yourself – as the contract is between the client and your company. You should be able to provide a substitute in your absence – something the client will need to agree to before the assignment begins.
Even if a substitution doesn’t take place, case law demonstrates that as long as the client confirms that they would be happy for another person to carry out the work, you’re unlikely to fall inside IR35.
It’s important that your contract accurately describes what’s going on with the project. Some contractors have tried to get around the system by developing so-called "IR35 friendly" contracts that don’t reflect the true nature of the project – something that won't go down too well with HMRC.
A good idea is to agree a "confirmation of arrangements" with your client. This details exactly what will be expected of you during the course of your assignment.
5. Part and parcel
Remember that a limited company is a business in its own right, so you should be treated as a separate entity to the rest of the client’s workforce. If you take up a position that’s deemed to be business as usual (BAU), you’re likely to be caught by IR35.
You also shouldn’t receive any benefits given to permanent employees, such as gym membership, access to the staff car park, or involvement in pension schemes. Case law shows that you’d have a great chance proving that your assignment is outside IR35 if you follow these simple rules.
6. Financial risk
As a business, you’ll be subject to an element of financial risk. If you can demonstrate this to HMRC, you’d be likely to win an IR35 case if one arises.
There are many ways you can do this, such as offering compensation if a project goes beyond the agreed deadline, or rectifying mistakes at your own cost. Financial risk also occurs if you invest in marketing, training and equipment to promote your business, as long as you can demonstrate that these helped you secure new assignments.
What steps can I take to stay within HMRC’s guidelines?
It’s a good idea to make a list of ways you can demonstrate behaviours that are outside IR35, such as any financial risk incurred or occasions when you’ve been treated differently to permanent employees.
You should also keep a list of contacts you worked with on assignment that will be able to back you up in the event of a HMRC inquiry. Case law shows that if you provide witnesses who can demonstrate that you behaved as an independent contractor, you’re much more likely to be successful in your defence.
What if IR35 applies to my assignment?
If you find that an assignment falls inside IR35, the most important thing is not to panic. All you need to do is make sure that you pay tax and National Insurance in the right way and there will be nothing to worry about. Don’t forget, a specialist contractor accountant, such as ourselves, can help you with this.
IR35 in the public sector
In the 2016 Autumn Statement, the government announced that from 6th April 2017 there would be changes to the way that IR35 would be decided for public sector contractors. The main change is that rather than the contractor deciding whether or not the contract is in or outside IR35, the decision would fall to the end client. If the client decides that IR35 does apply to the contract, and then the contractor will be taxed at source, just as an employee would do. Those working in the private sector or under an umbrella company are not affected by these changes.
IR35 myth buster
As with most legislation, there are a number of myths surrounding IR35 that could catch you out and land you in hot water with HMRC. Here are just a few:
1. IR35 won’t apply if I negotiate an existing contract
Not true! Even if your original assignment was outside IR35, you could still get caught by the legislation if you negotiate an extension after a period of several months.
That’s because your relationship with your client might change as you have become more comfortable working with them, so you may start demonstrating behaviours that fall inside IR35. A good rule of thumb is to assess your position every six months to make sure you won’t get caught out.
2. IR35 doesn’t apply if I don’t have a contract
Another myth! IR35 applies to how your assignment is conducted, not just the wording of a contract. If you display behaviours similar to a permanent employee, you can still end up being caught out.
In addition, if you don’t have a signed contract, you could be judged as not demonstrating a business approach – something that’s not likely to help your defence in the event of an inquiry.
3. I can close my company and avoid IR35
Wrong again! Because IR35 concerns tax and National Insurance, the responsibility to pay falls on you as the company director, and not just your business. This means you’ll still have to settle with HMRC even when your firm no longer exists.
Changing your business name won’t work either, as a HMRC inquiry is attached to your company’s registration number. What’s more, closing your company or attempting to change the name while you have unpaid tax debts could be seen as a deliberate attempt to get round the rules.
Need more help?
We hope this guide has helped you understand how IR35 works and what you can do to stay within the rules. We appreciate that the legislation may seem complicated, so that’s why we’re on hand to help. What’s more, once you have a grasp of things, you’ll soon realise that contracting still offers a wealth of benefits compared to the standard 9-5 WorkStyle.
At ClearSky Contractor Accounting, we’ve developed an in-depth knowledge on how HMRC interprets IR35. We’re also a founding member of the Freelancer & Contractor Services Association (FCSA), meaning compliance is at the heart of everything we do. We offer free assignment review services as part of our Executive package that provides guidance on whether a project is likely to fall inside or outside IR35.