Posted on: 10 March 2020
Article written in conjunction with guest author: Mike Lowndes from Exchequer Solutions.
On 22nd August 2019, the UK government announced plans to change IR35 in the Private Sector to change the way that off-payroll workers provide services for a business are taxed, whether they are full time or part time workers. The regulations do not apply to those working as sole traders, they do however still apply to workers taken on through an agency if they are operating as a Personal Service Company (PSC).
There has been plenty of information flying around about what this means for UK businesses, and how they can prepare, which is why we have written this useful guide to put everything in one place for you to refer to if you need any information about IR35. IR35 changes will come into effect on 6th April 2020, in time for the new tax year.
What is IR35?
IR35 isn’t actually a new concept, having been proposed in 1999, and implemented in 2000, by the then chancellor, Gordon Brown. The legislation is designed to tackle false self-employment, where contractors provide their services via a PSC, thereby avoiding tax and NI, but in reality behave and operate as an employee. This way of working means that contractors may work full time, but pay less tax and actually receive more tax benefits than their pay-rolled, full time employee counterparts. It also meant that the “employer” of the contractor is able to avoid costs such as National Insurance contributions, holiday pay, and pensions.
Prior to the change in liability and decision making moving to the hirer, contractors can currently decide on the kind of working relationship that they have with the client, although they themselves must be sure that they are outside of IR35. This means that contractors can work full time for a business but enjoy the benefits of working as a contractor. However, when IR35 is amended in April 2020, the onus will be on the client to decide whether or not the contractor that they work with is impacted by the IR35 ruling, depending on the way that a contractor works for the business.
How will a client know who is affected under IR35?
The hirer of a contractor will have to assess its workforce using the three criteria set out in IR35 and case law. To consider contractors to be outside of IR35, the hirer must be comfortable that there is no Mutuality of Obligations, that the contractor has the right to send a substitute and that the hirer will not seek to control how the work is completed.
Employers will have access to an online tool from HMRC called Check Employment Status for Tax (CEST), which has already been in use in the public sector since 2017, and is being updated and re-released in March 2020 before the IR35 ruling goes live.
The tool is a questionnaire with a series of questions about how you work as a contractor which assists in deciding if the contactor is caught by IR35, the CEST tool will then produce a report to tell the client whether or not the work that you do comes under the IR35 regulations . The hirer must also complete a Status Determination Statement (SDS) confirming how they have arrived at their decision.
Who is affected by IR35?
IR35 will only affect large and medium sized UK businesses who use PSCs to perform full time roles. This means that a company that meets two of these three criteria won’t need to check their status as a personal service provider:
- A company with a turnover of less than £10.2m
- Fewer than 50 employees
- Balance sheet of less than £5.1m
This means that if you work with any large or medium sized businesses, such as ones who are over the threshold of the criteria outlined above, they will have to check whether or not you fall under IR35 regulations.
How will tax work for those under IR35?
If you have been flagged as coming under the IR35 regulations, your income will be taxed when your invoice is processed by your client.
For example, if you give your client an invoice for £2,000 +VAT, your client will have to put that payment through their payroll system, as they would with their full time staff, and you will be classed as their employee for tax, NI and even apprenticeship levy purposes.
You will receive your VAT back, as well as payment for your work, as usual, but the amount that you have invoiced will have been taxed just like an employee.
What does this mean for contractors?
As of 29th October 2019, some of the UK’s major banks have already warned their contractors that they won’t be renewing their contract in time for the new changes, with some not renewing contracts at all before that date.
- HSBC – The largest bank in the UK stopped working with all personal service companies in September. They will now only work with consultancy agencies.
- Barclays – Coming in before the IR35 is even in place, Barclays announced that they will not be extending any contracts with personal service companies beyond February 2020.
- Lloyds – Similar to Barclays, Lloyds will no longer be taking on contractors beyond March 2020. They even made it clear that all contractors will either need to become permanent members of staff or a business owned by the client, by 29th March, or leave by 31st March.
- Tesco Bank – Tesco Bank also won’t be renewing any of their contracts beyond March 2020, however if there is any contractor whose contract goes beyond this date, they will all be treated as IR35 personal service providers whether or not they are, and won’t receive a rate rise to compensate for the money lost in tax.
It’s not just the financial sector that has been affected. GlaxoSmithKline has also been reported to no longer be hiring personal service providers by contractors.
The positive and negative aspects of IR35
Whilst there has been plenty of negative publicity around IR35, there are often two sides to every story, so we’re taking a look at why IR35 has received some bad press, but also some of the ways that IR35 can benefit you as a freelance worker.
- Companies severing ties – As we have already previously discussed, there are several companies who are already dropping contractors, and unfortunately, this could be a practice that spreads further than the banks. Which means that finding work as a contractor could become increasingly more difficult.
- Increased competition in your field – As the number of personal service providers drops, there could be more competition in your field of work. Those who choose not to join a company full time or become part of an umbrella company are likely to carry on working in their trade, competing for the same work as you.
- Admin work – Unfortunately, IR35 is set to create more work for contractors, who may have to prove their legitimate contractor status or carry out CEST tests, which takes up time that could be better spent doing the work that you love.
- Increased costs - If it is decided that your work falls under IR35 regulations, some of your income will be subject to tax. Take a look at the section below on what you can do next as a contractor to help your organise your cash flow.
- Loss of flexibility – Another major concern for contractors is that they will lose their flexibility, as it is likely that they will have to become a full time member of staff for the business they work for, or become an umbrella company that has to adhere more to company regulations.
Whilst there seems to be negatives, there are also the positives to consider.
- Invigorate change in your business – Like it or not, IR35 will change the way that most businesses in the UK function. This gives you the chance to reinvent the way that you work or even give yourself a complete rebrand.
- Meeting new clients – If your clients decide not to renew your contracts, this gives you the opportunity to network amongst a new client base to grow your business in new ways.
- Easier tax – If you are found to come under the IR35 ruling, you will start to pay tax as any employed team member would. However, you will be taxed by the company that you are providing work for, which means that they will be the ones sorting out the tax, meaning you don’t have to.
- More security - Whilst you may enjoy more flexibility as a freelance or contracted worker, by joining your client full time or under an umbrella company you could gain more job security and rights, such as paid leave, the right to request flexible working and sick pay.
What to do as a personal service provider
Don’t delay in preparing for IR35, especially if there is a chance that you could be designated as operating inside IR35 rules. Take a look at some of our advice on what to do if you provide contracted services to large or medium businesses before the change in IR35 law comes into effect in April 2020.
Define your working relationship
Under case law, there are three criteria that a PSC should meet in order to be operating outside of IR35:
Mutuality of Obligation
There should be no Mutuality of Obligation (MOO). The hirer should not be obliged to provide future work and the contractor should not be obliged to accept further work.
For example, if an IT contractor has finished building a network, but the hirer wants them to continue working on another project, a contractor working outside of IR35 would not be obligated to take up this work, although can do so if they wish.
Right to Substitution
As a PSC, you should be allowed to send in a substitute to complete work if you are unable to fulfil the work yourself.
An example of this would be if you were a PSC working as a bricklayer for a construction company and you had broken your arm. You wouldn’t be able to continue working, but if you are working outside IR35, you would be able to send in a substitute to finish the work. You should receive payment for the work done and you should in turn pay the substitute.
Control over how work is done
To be working outside of IR35, the hirer can give the PSC a specification to work to, but wouldn’t have control over how the contractor carried out the work.
Other IR35 indicators
A genuine contractor would be expected to take a financial risk. This means putting right defective work in their own time without pay.
You should also avoid ‘badges of employment’ such as wearing a uniform provided by the hirer or using an email address given to you by the hirer. The more you look like an employee, the more HMRC may think you are an employee and tax you accordingly.
Talk to the businesses you work with
You will need to work out what kind of relationship you have with the businesses that you work with to identify early on whether or not you may come under IR35 tax laws. By finding out this information early, you will be able to prepare for how your relationship will work with your business partners in the future.
You could also go through the CEST test either on your own or with your client and go from there in deciding how you will work together in the future.
Be prepared to appeal
An IR35 ruling from a SDS doesn’t have to be final initially, you could actually appeal the decision from a SDS as to what kind of contractor you are for your client.
To do so, you must set out your reasons for disagreeing with their initial determination, and they must consider these reasons. However, their end decision at the end of this process is final. They have the liability for the tax and NI due and therefore they have the right to make the decision.
Plan your finances
If you are found to be working under IR35 laws, it is likely that your income will be impacted. Take some time to forecast so that you can effectively plan your cash flow.
If you can calculate how your earnings will be taxed before the IR35 law comes into effect in April 2020, you will be able to calculate how much you will need to cover the amount of lost income that you may experience from the increase of tax that you may be paying.
Prepare for the worst
This may be something that you may not want to think about, but it is worth having in place plans if you are found to fall under IR35 regulations. As some large businesses have already started severing ties with their personal service providers, it might be worth making backup plans if the business you work with takes a similar decision.
This may mean that you need to start making new relationships with other businesses to get yourself back into work. Take a look at our articles on how to find freelance work near you and some tips for freelancers that may help you to build new contacts.
How do UK businesses think IR35 will affect contractors?
Research, published by HR Magazine, has shown the following results:
- More than half of UK businesses (59%) will sever ties with contractors because they don’t have time to assess them with a CEST test.
- 73% of businesses think that IR35 will impact how many contractors they hire.
- 39% of UK businesses expect there to be fewer contractors in the future as a direct impact of IR35.
- Over three-quarters (77%) of UK businesses are concerned that the contractors that they currently work with will fall under IR35 laws.
- Just under half (48%) of businesses say that IR35 will encourage them to reduce the number of contractors that they hire.
About our contributors
This article was written in conjunction with Mike Lowndes, Managing Director of Exchequer Solutions.
Mike commented “Whilst the above is a sensible look at IR35 and what it means, the reality is that so many hirers are simply not engaging with PSC’s post April 2020, due to the risk and admin burden, that this change to IR35 looks like bringing a premature end to the wide-scale use of PSC’s in the UK.”
Exchequer Solutions is a long established contracting company who are experts in contractor management and tax legislation. They are experts in IR35, CIS and Umbrella Payroll services and work with over 4,000 contractors per week.
Business insurance with Premierline
Finding the perfect business insurance cover that fully protects your business can be difficult if you don’t know what you need. Premierline is a business insurance broker who will assess your business’ needs to find insurance covers that can give you the protection that you need.
Get in touch to speak to one of our insurance professionals who will work with some of the UK’s most well-known insurance providers to compare insurance quotes.
Compare business insurance
The information and tools contained in this guide are of a general informational nature and should not be relied upon as being suitable for any specific set of circumstances. We have used reasonable endeavours to ensure the accuracy and completeness of the contents but the information and tools do not constitute professional advice and must not be relied upon as such. To the extent permitted by law, we do not accept responsibility for any loss which may arise from reliance on the information or tools in our Insight Hub.