IR35 reform could impact clients working as self-employed contractors or who run firms that use them
The government has published a consultation document setting out its proposals for the transfer of the onus for IR35 decisions away from the worker to private sector businesses.
IR35 is the set of off-payroll working rules intended to ensure that, where an individual would have been an employee if they were providing their services directly, they pay broadly the same tax and National Insurance contributions as those who are.
Such workers have been dubbed “disguised employees” by HM Revenue & Customs.
The responsibility for deciding if a worker is caught by IR35 or not currently falls on the engager only if they are a public sector body. If the engager is a private sector business, the onus is currently on the worker.
However, this burden of responsibility will be moving from workers to engagers for private sector arrangements from April 2020. This will not apply to small private sector businesses.
IR35 reform could have a broad impact on clients, whether they are working as a self-employed contractor themselves or running a business and using them. HMRC is seeking views on a number of subjects, including:
- The scope of the reform and the impact on non-corporate engagers;
- Information requirements for engagers, fee-payers and personal service companies;
- Employment/self-employment status determination disagreements.
The consultation also sets out how private sector businesses can prepare for this reform, as well as HMRC’s plans to provide education and support for those in scope of the changes.
What counts as a small company?
As mentioned, small private sector businesses will not need to determine the status of the off-payroll workers they engage. But what constitutes small?
Under the Companies Act, a business qualifies as such in a year in which it satisfies two or more of the following requirements:
- Annual turnover: not more than £10.2m;
- Balance sheet total: not more than £5.1m;
- Number of employees: not more than 50.
Some companies are excluded from qualifying as small despite meeting the requirements, such as one that carries on insurance market activity. The government proposes two options for non-corporate entities (for example, partnerships and sole traders) which look only at the turnover and the number of employees in the organisation:
- The first option is to apply the reform to unincorporated entities with 50 or more employees, and to entities with turnover exceeding £10.2m;
- The second is to apply the reform only to unincorporated entities that have both 50 or more employees and turnover in excess of £10.2m.
This high bar for a company or non-corporate entity to not be considered as small will no doubt be welcomed by many private sector businesses.
Obligations flow down the labour supply chain
Where an off-payroll worker provides their services to a small private sector organisation, they will continue to be required to consider whether IR35 applies to that engagement.
However, the consultation also suggests the onus for the decision will be extended to the worker’s intermediary, for example their personal service company.
For medium- or larger-sized private organisations, the government also wants to legislate to ensure the determination – and the reasons for that determination – are cascaded to all parties within the labour supply chain.
Where a potential fee-payer (if different from the engager) has not received a determination, it would not be required to make any deductions for income tax and NICs, or pay employer NICs, until such a time as it had received a determination.
Where HMRC does not receive the tax due, the government proposes the liability should initially rest with the party that has failed to fulfil its obligations, until such a time that it does meet those obligations.
This means liability would move down the labour supply chain as each party fulfilled its obligations.
For example, if an agency in the chain failed to send on the determination, it would be liable for any income tax and NICs due.
Similarly, if a fee-payer, having received the determination, failed to make deductions from any payments made to the worker’s personal service company, then it would become liable.
If HMRC was unable to collect the outstanding liability from that party – for example, because it ceased to exist – the government proposes that the liability should transfer back to the first party or agency in the chain.
Where HMRC could not collect from the first party or agency, it would ultimately seek payment from the organisation or entity receiving the off-payroll worker’s services.
This approach mirrors that taken in the agencies legislation, and the legislation that applies to labour supply chains which feature non-UK employers.
The government says it recognises concerns raised during the previous consultation about the absence of a process to challenge status determinations.
A number of respondents to that consultation also expressed concern that organisations may make blanket determinations of the employment status of off-payroll workers in similar roles.
The government thinks that, by requiring the organisation or entity receiving the off-payroll worker’s services to directly provide the worker and the fee-payer with the reasons for the status determination on request, this will go some way towards addressing this concern.
However, to allow for determinations to be challenged, the government believes the most effective approach would be for the organisation or entity receiving the off-payroll worker’s services to develop and implement a process to resolve disagreements, based on a set of requirements set out in legislation.
Changes to allowable deductions
For workers caught by IR35 under services performed for a private sector business, their intermediary/personal service company currently receives a gross payment from the fee-payer (i.e. without deduction of income tax and NICs) and is required to calculate a “deemed employment payment”.
This is the amount deemed to be the income of the worker, and liable to income tax and employee NICs, once allowed deductions and employer NICs have been removed. Deductions allowed include:
- A 5 per cent expense allowance. Those working under IR35 for private sector businesses, through their own personal service company, are allowed to deduct 5 per cent of their gross income earned through the IR35-caught contract for the costs associated with running a company. Note that this 5 per cent expense allowance does not apply to workers in the public sector;
- Pension contributions. Irrespective of whether the IR35-caught contract happens to be in the private or public sector, workers are able to claim tax relief on pension contributions made by their personal service company on their behalf. However, for workers in the public sector, these contributions no longer qualify for NICs relief, as tax and employee NICs will have been deducted from their contract fee by the fee-payer.
The proposed changes are as follows:
- As with public sector engagements, the worker’s personal service company will no longer be permitted to deduct a 5 per cent allowance in relation to engagements with medium- and large-sized organisations or entities;
- The government is now considering legislative options that allow fee-payers to make contributions, free of tax and NICs, to the worker’s personal pension. Making pension contributions would effectively give fee-payers a deduction on the amount on which they will be required to pay employers’ NICs. This is because the pension contribution reduces the gross pay before tax and employers’ NICs are calculated.
The current consultation closes on 28 May. HMRC says it will publish a full summary of responses later this year and the consultation will inform the draft Finance Bill legislation, which is expected to be published during the summer.
The reform will come into force from 6 April 2020.
Tony Wickenden is joint managing director of Technical Connection (a St James’s Place Wealth Management group company). You can find him Tweeting @tecconn