IR35. The more commonly known name of the new Off-Payroll rules currently in place in the United Kingdom within the public sector and set to hit the private sector in April 2020, the word alone is enough to strike fear into the heart of many an organisation and individual contractor alike.
Although some iteration of IR35 has been in place for almost 20 years now, historically it has allowed contractors to self-declare whether it should apply to their work – essentially giving contractors full control over the way they choose to process their own tax. In 2017, however, HMRC ruled that the public sector rules would be changing, taking this control from the contractor and moving it to the end client. This change has been met with controversy and a number of high-profile court cases – including a successful appeal by TV presenter Lorraine Kelly.
In a nutshell, IR35 is tax legislation designed by HMRC to maximise tax returns from contractors who are supplying services to clients via an intermediary, such as a limited company. Specifically, it looks at contractors who would, without the presence an intermediary (such as an agency), be classed as an employee.
The rules relate to the assignment that the worker carries out. If the assignment is a role that could be worked by an employee, or if the worker is treated by the business in the same way as an employee might be, the assignment will likely fall under IR35. HMRC has declared that if a role is under IR35 and thus if a contractor is doing the work of an employee, then they should be subsequently taxed as an employee.
From April 2020, end clients in the private sector will be the ones responsible for determining whether a role is within IR35, not the contractors themselves. The recruitment agency (or party paying the contractor their fee) in turn becomes liable for the accuracy of this determination and for ensuring that the contractor is paying the correct amount of tax.
The role of the end client
If you are a business operating in the private sector and engaging with contractors, you will be faced with the sudden challenge of needing to evaluate your entire contractor workforce. HMRC have ruled that businesses will need to use reasonable care to determine the status for each contractor (i.e. no blanket status determination allowed!) and you’ll need to be able to explain, both to the agency and the worker, why you’ve come to the decision you have.
It also becomes the business’s responsibility to inform both the agency and the worker of the status. Failure to do so automatically shifts the IR35 liability to the business, so this is an important step to complete for each role.
How can companies prepare?
If you are a business with contract workers, there are a number of things you could be doing right now to ensure that, come April 2020, you’re prepared for the change in law.
We’ve assembled 5 tips which you can put into action today:
1. Understand status declaration
The crux of your role as an end client will be to determine the IR35 status of each of your contractors. HMRC have listed several ways to determine a status but as might be expected, arriving at a conclusion is not always as straightforward as one might hope.
Arguably the most important factors to consider are what is referred to as the IR35 ‘holy trinity’: substitution, SDC and mutuality of obligation.
Substitution: The ability for a contractor to substitute another worker in their place to carry out the work and pay them via their own limited company. If this is possible, feasible and a realistic prospect, then IR35 will not apply.
SDC, also known as Supervision, Direction and Control: The level of direct management a contractor receives, how much they are supervised or how much of their work is directed or controlled by a manager. Essentially, if a contractor is solely responsible for managing and directing their own work, it lessens the likelihood that the role is subject to IR35.
Mutuality of Obligation: Are the contractor and business obliged to one another in any way? It is HMRC’s view that if a working contract exists, then mutuality of obligation exists. A lack of mutuality of obligation is typically only apparent in zero-hours contracts, for example, wherein the client is not obliged to provide the contractor with regular or indeed any work and the contractor is not obliged to pick up any work offered to them. There’s no obligation on either end. If there is no mutuality of obligation, then IR35 will not likely apply.
This ‘holy trinity’ are not the only factors however – also important is understanding whether a contractor is treated as ‘part and parcel’ of the organisation, for instance. Do they attend company-sponsored events, or are they expected to sit in on strategy townhalls? Are they required to undergo employee training for issues such as diversity and inclusion? If so, it’s very likely that IR35 will apply.
And this is only the beginning – there are many factors to consider when evaluating a role. Reading through guidance can be intimidating, so it’s important to not forget what IR35 is ultimately trying to determine: is this role something that an employee could do? Is your contractor a specialist brought in to complete a specific piece of work and then leave, or consult on a specific discrete project? Or are they providing services that members of your team are also doing, or additional cover on daily and ongoing tasks?
2. Try out the CEST tool
The CEST tool is HMRC’s tool designed to help end clients make status determinations. By testing this out for yourself now, you’ll get a better understanding of what factors HMRC currently views as a priority. This tool is not yet finalised for 2020, but HMRC are constantly making small changes and improvements to it.
HMRC have said that they will stand by the results of this test, provided all questions are answered truthfully and accurate information is provided, so it’s always worth running this tool across all your contractors.
3. Review your contractor workforce
One important thing to understand about IR35 is the impact it will ultimately have on contractors. If there’s anything we can take away from the implementation of IR35 in the public sector in 2017, it is that they were the party who ultimately pushed back the most.
This is understandable - for workers whose roles are newly caught within IR35, there will be an actual loss in take-home earnings – around 10% - 20%, roughly speaking. Some workers may therefore ask to be paid a higher PAYE rate to compensate, or simply decide to leave and seek another role that is outside of IR35.
It is important therefore to look at your workforce of contractors and establish who is business critical and who you could potentially risk losing. This will help you to establish your negotiating strategy as you move forward.
Also important, before anything else, is understanding who of your contractors are likely to still be on site by April 2020. If you have several workers set to roll off ahead of IR35 coming into force, there’s no need to worry about evaluating their status!
It is worth noting that when the public sector laws changed, contractors were able to simply move into a private sector role where the new IR35 rules did not apply. Once the private sector adopts these rules however, this won’t be an option for contractors. This may signal a shift in the market towards permanent roles, or maybe a hike in rates for contractors so that businesses can retain their contract workforce. It’s too early to tell what the outcome will ultimately be.
4. Review the contracts you have in place
Review the contracts you hold with the agencies you work with – it’s likely that these will need to be updated to accommodate the new law changes. Note that while agencies are typically the party liable for an incorrect status declaration under IR35, if an agency is found to be processing a contractor tax in a way that HMRC feels is not correct but then cannot pay the subsequent fine, the liability falls to the end client.
It’s therefore incredibly important to ensure that the agencies you work with are doing their due diligence as far as processing contractor pay is concerned. Ensure that the third parties you work with are taking the right level of care for your business.
This brings us neatly onto our final tip…
5. Talk to your recruitment agencies
It is vital that end clients and agencies work closely together to tackle the new IR35 laws as they come into effect.
In addition to making status declarations, the end client will also be required to consider challenges to a declared status, either from the agency or the worker. This will likely be something that businesses will face from the offset – from contractors, as they are likely to push back on ‘inside IR35’ declarations and from agencies, as they will be keen to ensure all declarations are correct, given that they are the liable party.
It’s therefore important to work with your agencies to agree on and implement a process to work through challenges as they arise. It’s recommended that you decide who in the business will be responsible for IR35 and liaising with the agencies – this could be a division of your legal department for example, or Human Resources, or even the Hiring Managers for each role. Usually, in order to make a well-considered declaration, input will be needed from all three!
It’s also necessary to understand the plans your agencies have in place to tackle IR35 and ensure they remain compliant with the law and with HMRC. Good recruitment agencies should be well-versed in IR35 and have subject matter experts at their disposal, so they may well be able to help advise and guide you as you begin to look at the changes needed within your business.
It’s never too early to start having these conversations and preparing for the changes in the year ahead!
Lauren Fonseca is the Operations Manager at The Difference Engine and subject matter expert for all things IR35. If you’d like to discuss your future contracting needs, or understand more about the upcoming legislation, get in touch.