The changes to off-payroll working (IR35) rules for the private sector have been implemented from 6th April 2021. The new rules will significantly impact contractors working through a Personal Service Company, Recruitment Agencies, all large and medium-sized end-clients in the private sector and all organisations in the public sector.
What is IR35?
IR35 is tax anti-avoidance legislation, officially called Intermediaries Legislation and referred to as ‘off-payroll working’.
IR35 was designed to combat tax avoidance where workers supply their services to clients via an intermediary, such as a limited company. The relationship would be deemed employer-employee if without the intermediary.
What is the purpose of IR35?
IR35 is designed to identify ‘deemed employees’, who are contractors working at a company in the same way that full-time employees do.
The goal of the legislation is to legally define what a contractor is and how they differ from an actual employee. IR35 ensures those who are, for all intents and purposes, ’employees’ are taxed accordingly.
Where IR35 applies, a contractor is required to pay a Deemed Employment Payment. This ensures the contractor pays the same amount of tax compared to a regular employee.
What are personal service companies (PSC)?
A personal service company (PSC) is a limited company established by a contractor to render their services to clients. It’s frequently the ‘intermediary’ in the context of IR35 (the off-payroll working rules).
When it comes to contracting work, many clients and agencies favour working with businesses rather than individuals (sole traders). Even in the event of hiring sole traders on short-term contracts, the relationship may point towards employer and employee, rather than client and contractor. The client may be liable for employment benefits, like sick pay and holiday pay.
The contractor pays him or herself for the work via a salary or dividends taken from the PSC. This is not fundamentally wrong unless the contractor is a disguised employee. Such a case is considered a form of tax avoidance.
Does IR35 apply to sole traders?
No, IR35 does not apply to sole traders. Contractors who are sole traders and not invoicing via a company are not affected by IR35. The self-employed pay tax and NI on their earnings in the same way that an employee does.
Who is affected by IR35?
You may be affected by IR35 if any of these apply to you:
- you are a worker who provides services through an intermediary
- you are a client who receives services from workers through an intermediary
- you are an agency providing workers’ services through their intermediary
If the IR35 rules apply, employee National Insurance contributions and Income Tax must be subtracted from compensations and paid to HMRC.
Apprenticeship Levy, if applicable, must also be paid to HMRC.
What is changing for IR35?
When first introduced, the IR35 legislation said the PSC had to self-identify as a personal service company. It was down to the contractor to examine their working conditions, determine their employment status and take action should they find they are a disguised employee.
In 2017, the IR35 requirements were expanded to employers for the first time, although just in the public sector. Public sector employers have to evaluate if the contractor was a disguised employee and if so pay them respectively, by deducting employee tax and National Insurance contributions (NICs) at source, via PAYE, including the employer NICs too, as with any other worker.
This obligation to identify and correctly pay the relevant taxes on disguised employee contractors will be extended to medium and large-sized private businesses in April 2021.
What do the IR35 changes mean for contractors?
Expanding the rules from public sector employers to include the private sector means that many more contractors will be affected.
Some businesses will find themselves with a notable additional bureaucratic strain and financial burden when contractors have to be transferred to their payroll and employer NICs added to the expense of hiring contractors.
Likely affected businesses may refuse to hire contractors after April 2021 in response to the IR35 expansion. Contractors may be expected to join the payroll as an employee, or provide their services elsewhere.
Who do the IR35 rules apply to?
As of April 2021, IR35 places the legislative requirements on medium and large private companies. The rules for identifying the size of a business are based on those set out in the Companies Act 2006, section 382.
In general, a limited company is considered medium or large if two or more of the following apply in a given financial period, and also applied for the prior period:
Annual turnover is more than £10.2m
The balance sheet total is more than £5.1m
The average number of employees is more than 50.
What does my business have to do to comply with the new IR35 rules?
If your business is public or a medium or large private employer as of April 2021 you will have to:
Determine the employment status of each contracted worker who works via an intermediary ensuring that they ‘take reasonable care’ in making the determination. HMRC’s Check Employment Status for Tax (CEST) tool can be used for this.
Once the status has been defined, provide a Status Determination Statement (SDS). They must share the statement and reasons for the determination with the party with which they contract as well as the off-payroll worker.
Keep detailed records of contractors and their SDSs, including the grounds for the determination and fees paid. This will require creating a system to securely keep records.
Have processes in place to deal with any disputes that arise from such determinations. Disagreements may arise from the contractor or the company paying the contractor (the agency recruiting and paying the contractor on behalf of the business, for example). There is no time limit for challenging.
Establish if you are the ‘fee payer’ – because this directly impacts who has to run the payroll for the off-payroll contractor(s). See “What are the new IR35 requirements if I use an agency to hire contractors?” below.
Small companies don’t need to do anything because they are not affected by the new IR35 requirements unless they work as contractors.
Contractors should persist in making their own determinations about the nature of the engagement with the company they work for. Working for companies that aren’t covered by the IR35 changes, such as a small private entity, will require the contractor to self-determine if IR35 includes them.
How do I pay a contractor who turns out to be a deemed employee under the new IR35 requirements?
If a contractor is classified as a deemed employee, the fee payer has some distinct requirements when it comes to processing the payment.
The fee payer is accountable for calculating the PAYE, employee and employer NICs (and the apprenticeship levy, if applicable).
The fee payer must report any payments to the PSC, or to the agency the contract is with. A Full Payment Submission (FPS) must be made through the Real-Time Information (RTI) system listing the taxes and National Insurance contributions deducted. A payslip can be issued to the deemed employee, or this tax and NIC information can be listed on a remittance notice.
The fee payer will be accountable for issuing an end of year taxable summary form (P60) or end of employment taxable summary form (P45).
The fee payer must not deduct student loan repayments, or auto-enrol the worker, or make statutory payments (SSP, SMP, etc). The PSC should do this as required.
It’s good practice to always provide a payslip and inform the PSC how much tax has been deducted so they can reconcile, but these aren’t currently demanded by HMRC.
RTI has a new off-payroll worker flag – OPW (off-payroll worker) – that must be used for deemed employees. Fee payers can use the same payroll as for other employees, and simply deploy the OPW flag as required, or run a separate payroll where all employees have the OPW flag set.
There’s no obligation to add deemed employees to your existing payroll unless this serves your business. However, you will have to create a new payroll if the payments are not otherwise reported under your existing PAYE scheme.
The likely tax code will be BR because the deemed employee is considered to have primary employment with their own intermediary.
How does IR35 affect construction workers?
Sub-contractors could be affected by IR35 if they operate as an incorporated business. IR35 takes priority over the Construction Industry Scheme (CIS) requirements. In other words, medium or large construction contractors coming within the new IR35 requirements should always consider incorporated sub-contractors as deemed employees if the IR35 rules outlined above apply. They should therefore not apply the CIS.
Guidance for businesses adopting the new IR35 requirements
- Start the preparation process as early as possible if IR35 applies
- Review your current workforce including current contractor engagements as well as your supply chain
- Decide how the status determinations will be made
We do not advise the blanket approach certain organisations have decided to adopt. Each status determination statement should be separate for each individual and engagement.
IR35: What now?
The government is reviewing IR35 in light of this lack of understanding. If nothing else, the accounting impact for medium and large businesses is going to be significant – those paying the contractor will have to examine their double-entry and accounting processes.
Do you have questions about how IR35 might affect you as a business or as a contractor?
Have a look at our services and feel free to get in touch with us. You can book a consultation at info@acuaccounts.com or call us directly on 0203 907 9027.
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