IR35 can sometimes be difficult to understand, and since its incorporation, it has been the source of a great deal of stress for countless contractors. From understanding what the rules entail and the consequences of being caught inside to what determining factors are used to assess IR35 status, there’s a lot to take in.
HMRC states that IR35 applies to you when you provide a service to a client via an intermediary. So what does that mean? In the case of a limited company contractor, the intermediary would be your limited company.
IR35 is complex, and many contractors can find themselves wondering just what the rules mean in practical terms. We’ve written this guide to help develop your understanding of the legislation and what it means for you.
IR35 and Managed Service Companies
A Managed Service Company (MSC) is a company that the contractor doesn’t really manage themselves, even if the contractor is appointed as the director and the shareholder. Instead, an MSC provider manages the majority of the company’s affairs rather than the contractor taking responsibility for them such as invoicing, banking along with day to day management of the company. Prior to 2007, MSCs were an attractive way to work as they were not subject to IR35. However, since HMRC changed their legislation in 2007, the tax loopholes when using an MSC were closed.
What conditions must my contract meet to remain outside IR35?
According to HMRC, “you must receive or have rights entitling you to receive a payment or benefit that is not employment income”. In other words, you must get paid for the work as determined by your contract. You don’t get paid a salary, and your client does not issue you a monthly payslip with National Insurance or income tax deductions.
As the director of your limited company, your contract also needs to meet certain conditions. When it’s under review, the factors in deciding whether it is inside of IR35 or not include:
Control – are you managed by the client? Or do you have the freedom to work under your own control?
Financial risk – if a client fails to pay you, would you experience financial loss?
Substitution – can someone other than you perform the task your company has been contracted to do if you are unable to perform the contract?
The right of dismissal – can the client immediately terminate your contract?
Employee benefits – do you receive benefits such as holiday pay, sick pay, pension contributions, training courses, Christmas dinners or the annual staff summer outing? You can find more about HMRC’s determining factors in our comprehensive guide to IR35.
IR35 reforms to the public and private sectors
From April 2017, the IR35 reforms meant that for any contractors working within the public sector, the responsibility for determining IR35 status shifts to the end client. Where the contractor was caught inside IR35, the fee payer would be responsible for deducting employers’ National Insurance contributions and would effectively be acting as an employee for the purposes of tax. But without the benefits that this usually entails, including holiday pay and sick pay.
Similarly, from April 2021, the responsibility for determining IR35 status will shift from the contractor to the end client. The only exception to this rule is for small companies. This proposed change has left a great deal of uncertainty within the industry, with contractors left guessing what the future holds for their working practices. Learn more about the reforms and what they could mean for your limited company.
IR35 and the small business exemption
HMRC introduced a small business exemption for small companies from 6th April 2021. This means that a company in the private sector which meets the criteria for a small business will not be impacted by the IR35 reforms. Instead, the contractor will continue to assess the IR35 status of their assignment and carry the liability instead of the end client.
A small company is defined as one which has two or more of the following requirements by the Companies Act 2006:
- A turnover of less than £10.2million
- A balance sheet total of less than £6.1million
- Less than 50 employees
To determine whether the small business exemption applies to a tax year, the requirements are applied to two consecutive financial years. Where two or more of these conditions are met, the responsibility for determining IR35 status resides with the contractor.
Where the small business exemption does not apply, the end hirer will need to prove that they have used reasonable care to arrive at their decision and must issue a Status Determination Statement to the contractor and the next agency in the supply chain.
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How the IR35 rules could affect you
The rules surrounding IR35 may seem complicated, but can be broken down as follows: if you look like an employee and are controlled in a similar way to an employee, it’s likely that your contract will be caught inside of IR35.
A good analogy is to imagine the relationship you would have with a builder. They agree on a price, carry out the work, you don’t provide any employment rights. If the builder can’t complete the work, they will send in another builder to complete the work and if you don’t pay they incur a financial loss. All this points to the builder running their own legitimate business and nobody would think for a minute that they were an employee of yours.
If you’re concerned about the status of a contract, find out more about how best to protect your IR35 status in our guide.
Further IR35 advice
Legislation can tricky and it’s advised that you speak to an expert to find out more about matters such as IR35. Help is at hand - our team of experts can help you navigate through all the pitfalls, advise on any upcoming changes and conduct a comprehensive review.
Contact our experts directly to find out more and to arrange your IR35 review.
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