‘IR35’ is the name commonly given to UK legislation governing the taxation rules that apply to intermediaries. The legislation is contained in a combination of Chapters 8 and 10 of the Income Tax (Earnings and Pensions) Act 2003, and the Social Security Contributions (Intermediaries) Regulations 2000 – SI 2000/727. The name is taken from the 1999 Inland Revenue press release that first announced the planned legislation.
Though modified over the years, the general IR35 rules have remained largely the same since they came into force.
IR35 affects workers that use intermediaries to provide services to end clients. The intermediaries are usually personal service companies (but can also be partnerships and other arrangements). Commonly, these workers are called contractors.
IR35 also affects any other businesses that use contractors.
Workers that use intermediaries in the form of personal service companies can benefit from tax advantages not available to ordinary employed workers – primarily significant income tax and National Insurance Contributions savings. These, plus other commercial advantages like limited liability, are one of the main reasons contractors use an intermediary.
Aware of this disparity in tax obligations, the government introduced IR35 to ensure that the same amount of tax would be paid by actual employees and by workers that would be deemed employees but for the existence of the intermediary. All contractors and their end clients must be aware of IR35. The financial consequences of non-compliance are significant in terms of tax arrears and, in some cases, financial penalties.
Originally, the contractor was always responsible for self-certifying compliance with IR35. However, because of ongoing tax avoidance issues, new off-payroll rules came into force in April 2017, making public authority clients using intermediaries responsible for IR35 compliance. In April 2021, these rules were further rolled out to medium and large companies in the private sector.
Now primary responsibility for IR35 compliance only falls to the contractor when providing services to a small company in the private sector. The Companies Act 2006 sets out the qualifying conditions for a small company, including having less than 50 employees and a turnover of less than £5.1 million.
Compliance with IR35 will involve determining whether the particular contract with the intermediary falls inside or outside the legislation.
Decisive considerations will include:
If a disguised employee relationship is found to exist, the contract falls inside the legislation, and normal PAYE tax and NIC rules will apply. IR35 compliance, in this case, will mean making sure the correct amount of tax, and any arrears, are paid to HMRC.
If a disguised employee relationship is not found to exist, there is genuine self-employment under the contract, and the contract falls outside of the legislation. In this situation, IR35 compliance will mean having ample evidence for HMRC should a compliance check and subsequent investigation, ever be carried out on the contract.
To be successful in any investigation, it will be crucial to have evidence of genuine self-employment from clear terms in a written contract, and documentation from the contractor’s day-to-day working practices. HMRC will be particularly interested in the latter as often working practices can be inconsistent with what is set out in the contract. Best practice would include collecting and filing documentation supporting some of the decisive considerations highlighted above.
Aside from a significant tax arrears payment that may be due, non-compliance with IR35 can lead to steep financial penalties. For the first 12 months of the new rules in the private sector, HMRC announced that it would not impose penalties except in the case of deliberate non-compliance. That initial grace period is over since April 2022 however, and businesses face fines of between 30%-100% of any unpaid tax depending on their level of culpability in non-compliance.
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