IR35 – An Introduction
As a business owner, you will know that that there is a lot for you to remember and be aware of, with one such area being tax law, and, in particular, IR35.
IR35 is one piece of tax legislation that as a business owner you must be aware of. Introduced by the British Government in 1999, IR35 was created to reduce tax avoidance – particularly by workers who operate via 3rd parties, such as through a Limited Company, but whom in normal conditions would be classed as ‘normal employees’.
These workers are referred to as ‘Disguised Employees’ by Her Majesty’s Revenue and Customs (HMRC) and they are required to pay Income Tax and National Insurance Contributions just as ‘normal employees’. What this means financially can make a big difference to businesses, especially small-sized ones, as it has the potential of reducing a worker’s net income by up to 25%. This will also force a Limited Company to spend more in terms of Income Tax and National Insurance contributions (NICs).
To add to the confusion regarding IR35, changes made in 2017 now mean that decisions regarding status and who pays Income Tax and NICs to HMRC are dependent on the actual sector you operate in. For example, if you operate in the Public Sector, it is the end client paying your Limited Company that is responsible for determining your IR35 status. Therefore, if your contract with this client falls under IR35, it will be them who will have to ensure Income Tax and NIC payments are made to HMRC.
However, if you are operating in the Private Sector, it is your responsibility as the Limited Company doing the work to determine whether a contact with your client falls under IR35 or not. If you decide it does come under IR35, you as the Limited Company are required to ensure all required Income Tax and NICs are made in a timely manner to HMRC.
What if an agency is making the payments?
It is not unusual for an agency to operate between a Limited Company and their client. However, this can cause some complications regarding the movement of money, especially regarding Income Tax and NIC deductions. If you are operating within the Public Sector and IR35 and an agency is involved, it is the end client that pays the agency for work carried out by the Limited Company. Furthermore, the end client is responsible for determining the IR35 status of the person performing the work, as well as paying all Income Tax and NIC to HMRC. In this scenario, the end client is also required to pay the net amount to the Limited Company for the agreed work – this is because the agency disburses payment to the Limited Company – which in turn pays the net amount for the work in the form of a salary or tax-free dividend.
If you are operating within the Private Sector and an agency is involved, the procedure is slightly different. Firstly, the end client pays the agency for the work performed by the Limited Company. The agency then pays whatever the contracted amount is to this Limited Company. In this scenario, it is the Limited Company that must decide whether the worker involved is classed as IR35 or not. If the worker does fall under IR35, the Limited Company pays a ‘Deemed Employment’ payment to the worker – with Income Tax and Employee NIC deducted from this and then paid to HMRC. In addition, the Limited Company in this scenario will also be required to pay Employer NI.
Proposed changes to IR35
The British government announced in 2018 that Public Sector rules regarding IR35 would be extended to the Private Sector beginning April 2020. Whilst there is still some uncertainty regarding the specifics of this new proposal, the following has so far been confirmed:
- Very small businesses (approximately 1.5 million in the UK) will not be included in the change
- The change will apply to all medium and large-sized businesses operating in the UK
- All medium and large-sized businesses will be responsible for assessing a person’s employment status
- Medium and large-sized businesses will be required to decide whether IR35 applies to any situation in which they deal with an individual operating through their own Limited Company
Understanding that such changes will likely cause some businesses difficulties, as well as wanting to protect them should mistakes be made, HMRC has declared it will not investigate businesses that begin paying IR35 for the first time (previously HMRC would have likely investigated a business for a number of prior years leading up to the change).
IR35 – moving forward
HMRC has announced that it will continue to work closely with UK companies to identify any areas of tax that can be improved regarding employment status, as well as make any adjustments to the IR35 reform to ensure that it meets the needs of UK businesses. To help make the transition as smooth as possible, HMRC has also declared that it will be thoroughly testing the new policy in close conjunction with various parties, including operational and legal experts, before it is fully introduced. As you can see, the proposed new changes to IR35 are designed to place more responsibility on businesses. It is therefore very important if you are a business owner, contractor or subcontractor, that you are fully aware of such changes and what these now mean in terms of your legal responsibility to HMRC. More information regarding these changes are expected to be released by the UK government later in 2019, and you are therefore advised to keep a look out for these announcements. To learn more about the new HMRC policy regarding IR35, you can visit the HMRC website. We hope the above information has helped shed some light on what IR35 means, as well as your businesses’ responsibilities and the new changes being introduced.