A Guide to IR35:
New UK Tax Legislation Arriving April 2020
In April 2020, new IR35 legislation will come into force in the UK – this will govern the misclassification of contractors as employees to prevent tax avoidance within private companies. The rulings have caused a huge deal of debate, with some calling it the death knell of independent working practices, and others praising the strong action against nefarious employers taking advantage of their workers and legislative loopholes. But what exactly does IR35 mean, and how will it affect organisations operating in the UK when it arrives next year?
What Is IR35?
The term IR35 describes tax legislation that aims to prevent the misclassification of employees as contractors for the purpose of tax avoidance by both the worker and the firm hiring them. Workers who are supplying services to companies via an intermediary (such as a limited company) can benefit from the flexibility of this arrangement, as well as paying lower tax and NI rates; companies hiring these contractors also benefit as they can avoid paying the employer costs and benefits applicable to employees.
The IR35 legislation deems whether these workers are in fact disguised employees with the same taxation obligations as a standard employee. Workers ‘inside IR35’ are defined as employees by the UK’s tax authority HMRC and must pay the correct amount of tax – potentially leading to a 25% reduction in the worker’s net pay. Those ‘outside IR35’ are considered to be legitimate contractors and can continue under the same arrangement.
IR35 became law as long ago as 2000 when the Intermediaries Legislation first came into force as part of the Finances Act. In the intervening years, HMRC struggled to enforce the legislation due to its complexity and uncertainty around employment status rules, so in 2017 the IR35 revisions were announced in the hope of greater clarity and more cases being successfully brought against those abusing the system. The initial set of reforms applied solely to the public sector, but in 2020 IR35 will also change for the private sector.
What is changing in April 2020?
Both the old and new legislation hinges around the classification of “deemed employees” – that is, whether the worker is truly a contractor or whether they are a disguised employee. This remains the central concern of IR35.
The newer IR35 legislation brings into force alternative tax treatments which mean that companies are now responsible for assessing the contractor’s employment status – and that they should pay employment taxes over and above the fees paid to the worker.
Currently, there are different rules for public- and private-sector companies. The public sector rulings have been in place since 2017 and indicate that the hiring company/organisation is responsible for assessing whether the contractor falls inside or outside of IR35. If the hirer decides that the worker falls inside IR35, tax and NI contributions should be deducted and the worker’s status reported to HMRC.
In April 2020, private sector contracts will be brought inline with the public sector. Prior to the 2020 deadline, it was the contractor’s responsibility to calculate their own position inside or outside of IR35. From 2020, private sector employers will now be responsible for assessing IR35 status as per the public sector rules.
What are the criteria for a deemed employee vs a contractor?
There are a number of factors which determine whether a worker is considered a contractor or employee, such as the amount of supervision, direction and control that takes place, the way in which they are paid, the equipment they receive, whether they are engaged in contracts with more than one client, the level of financial risk they bear, whether employees report into them, how ingrained they are within the organisation and so on. The best way to determine a worker’s status is to use the government’s tool in the following link:
How will this impact contractors?
Genuine contractors should not be impacted – it is important however to be completely clear about the factors that determine worker classification.
The most obvious impact is on those contractors who are re-assessed as “deemed employees” – this could mean that tax and NI obligations will need to be paid on their income. Deemed employees are also due certain employee benefits such as sick and holiday pay; a sudden change to full employment may be a shock for workers accustomed to the flexibility and reduced tax obligation attached to being a contractor.
The new IR35 rules will to some extent move responsibility away from the contractor and on to the engaging firm – however, contractors should remain abreast of their own situation and status so that changes do not come as a surprise. The change to employment will of course affect their limited company or any contractual relationship with a third party “umbrella” payroll company.
How will this impact companies or hirers?
The largest impact will be the shift to the engaging company having full responsibility for the assessment for IR35 status of workers. Companies who may be affected should spend the next 9 months learning the intricacies of IR35 or engaging the right support to help them make correct assessments. They will also need to put in place the correct internal procedures to ensure the right contracts and payroll arrangements, while also managing the expectations of the workers.
Tax liabilities in 2020 will be moved from the worker to whomever pays the fees – in some cases, this will be recruitment agencies. This has caused some controversy because the end client or engaging party is still responsible for assessing IR35 status – recruiters or fee-paying organisations could be liable for extremely large tax bills if end clients make slapdash IR35 decisions. HMRC have stated that if there is evidence of negligent behaviour on the part of end clients, they too may be liable to be penalised. It is therefore imperative that workers, any third parties, recruiters and end clients work together and keep constant open lines of communication to ensure correct decision-making.
Companies should be wary of simply actioning a blanket shift of all contractors into IR35 – the legislation is intricate and each case requires thorough consideration, and this type of action can result in contractors paying employee-level tax without the employment rights they are due in return.
What should my next steps be?
The IR35 legislation will prevent non-compliance and associated underhand practices – it is fundamentally beneficial to all. However, the deadline is fast approaching – any organisation engaging UK contractors should make themselves abundantly understanding of the new IR35 rulings, and ensure their classifications and internal processes are compliant to the letter of the law. The right support is vital – for advice on what IR35 could mean for your workers’ specific circumstances, please get in touch with a Mauve Payroll expert via the Contact Form.