What is changing?
As anticipated, the Government is to roll-out the public sector IR35 changes to the private sector.
The Government and HM Revenue & Customs (HMRC) believe that there has been wide-spread non-compliance of the Intermediaries legislation, often referred to as IR35, by so-called ‘disguised employees’, primarily those providing their services via an intermediary such as a Personal Service Company (PSC). The Government want to get to a position where similar levels of tax and National Insurance are collected when people are engaged in this way as would be the case for those directly employed. It is clear that the implementation of IR35 changes in 2017 for the public sector has resulted in significantly increased tax revenues and this is expected to be mirrored in the private sector.
Are there any other advantages for HMRC?
Shifting responsibility for determining when IR35 applies from contractors and their personal service companies (PSCs) to engagers will also create scope for efficiencies. In particular, this will allow HMRC to conduct a single investigation into one company covering payments to multiple contractors. Previously, HMRC has had to open separate enquiries into each contractor. For example, being able to open a single enquiry into a business engaging 100 contractors will represent a huge time saving in comparison to 100 separate tax enquiries.
The change is scheduled to apply from April 2020.
Who is affected?
The Government has decided that the changes in April 2020 will apply to engaging business that are classified as being either medium or large in size. These businesses and the contractors that provide their services to these businesses will naturally be concerned. This could lead people to think that those providing services to smaller businesses are therefore unaffected, but we think this is wrong for two reasons:
- Those providing services to smaller businesses are likely to become the “high risk” category as far as HMRC are concerned given the expectation that perceived compliance rates are expected to improve for those with medium and large enterprises.
- The extension of the rules to medium and large enterprises may not be the end of the story and we may find that there is a further extension to small enterprises a year or two down the line. Getting your ducks in a row now is therefore recommended to reduce risk.
What do the changes mean in practical terms?
The Government have proposed a further consultation about the actual rules to be applied so the final detail is currently unknown. However, it is likely that these will mirror the rules in the public sector and we anticipate the following:
- The engaging business will become responsible for determining whether the regulations apply, rather than the individual worker and their PSC;
- Where the rules apply, the engaging company will be responsible for operating PAYE on payments it makes to the PSC;
- The engaging company will also be responsible for the employers National Insurance liability arising on these payments;
- If the engaging company determines that the regulations apply, but there are other entities between this and the PSC, then the engaging company will advise that the regulations apply and the entity that actually pays the PSC will be responsible for operating PAYE as well as suffering the employers National Insurance liability.
What should engagers do?
It is essential that large and medium businesses, engaging off-payroll workers, implement a meticulous approach to reviewing contracts and testing workers’ employment status on an individual basis to avoid falling foul of HMRC legislation.
What should contractors do?
Contractors will need to be satisfied that their previous arrangements have been dealt with correctly because it will be difficult to argue that the previous arrangements were outside of IR35 if their client subsequently determines that IR35 applies to the same contract. While HMRC have indicated that they have no plans to undertake targeted campaigns into previous arrangements, this falls well short of an amnesty. It is therefore possible that HMRC will investigate with a view to recovering any unpaid PAYE relating to past IR35 compliance failures.
What other impacts should engaging business expect?
Engagers are likely to experience an administrative burden ensuring compliance with the new IR35 rules and there are likely to be additional costs too. These businesses will either need to ensure that they have internal resource with the time and skills to review the status of their contractors, or they will need to budget for incurring professional costs in outsourcing this to firms such as Menzies LLP that have the necessary expertise.
What are the implications of getting this wrong?
Businesses that make mistakes when determining the status of individual contractors are at risk of penalties as well as demands for underpaid tax and NIC that they failed to deduct.
There may be a temptation to err on the side of caution or to implement a ‘broad brush’ approach, simply labelling all contractors as falling within IR35. This could mean applying IR35 when it is not applicable potentially leading to different problems such as:
- Contractors refusing to take the work;
- Additional employers NIC costs that would not otherwise be due;
- The risk of penalties for failure to take appropriate care when applying the tax rules.
How do you determine whether IR35 applies?
Calculating employment status is certainly not an exact science and Court guidance advises ‘painting a picture’ covering all aspects of the engagement. You should then step back and look to see whether this looks like employment or self-employment.
To simplify this process, HMRC’s Check Employment Status for Tax (CEST) tool was introduced to help the decision-making process for engagers by providing an objective outcome. However, it has been widely criticised and HMRC has now pledged to work with interested parties to improve the tool in time for 2020. While in theory this is a positive step forward, the problem is that the improved version may not be available until after engagements straddling April 2020 have commenced.
For businesses that want to continue taking advantage of the flexible terms offered by contractors, it is essential to ensure their working arrangements are fully consistent with their self-employed status. Contracts should clearly indicate a business to business arrangement, setting out exact deliverables and making it clear that the contractor is responsible for the where, when and how aspects of the work as far as practical. It is important the worker is not capable of being subjected to supervision, direction or control. All parties should also be careful to avoid treating contractors in the same way they would direct employees, for example, inviting them to staff only events such as the Christmas party because treating contractors as though they are employees significantly increases the risks.
Until draft legislation is published later this year, we will lack detail about the full scale and impact of IR35’s roll-out in the private sector. However, it is clear the changes are coming and early action should be taken to remove risk. By taking the right steps now, businesses can ensure they are compliance-ready for the new rules, whilst retaining access to their prized off-payroll contractors.
These are complex issues, but our specialist advisors can help businesses and contractors to put in place appropriate contracts and arrangements, as well as helping you to apply the legislation correctly.