IR35 is a very important HMRC legislation concerning contractors and above all else, tax avoidance.
First issued in the year 2000, IR35 targets those contractors considered in the eyes of the HMRC to be ‘disguised employees’, thus guilty of tax avoidance. Contractors, being technically self-employed individuals, are not taxed in the same way as average employees, having a lower tax bracket which in turn means that they pay less tax. Because of this, HMRC are keen to ensure that those working as contractors (and paying less tax) are indeed fully self-employed, and are not still working in the same way they would have been when in employment. The ‘disguised employee’ is the name given to this concept, and is the name given to those who fall within the IR35 legislation. There are certain ways in which a contractor can calculate whether or not they fall within or outside of the legislation, one of which being the business entity tests. IR35 is a concept that still causes much confusion and concern within the contracting community, and as for ‘What is IR35?’ that is a question often asked.
Seb Maley, Operations Manager here at Qdos is an expert in IR35 and is well versed in HMRC’s involvement with contractors, and has followed its advances and changes since the legislation began. Speaking to Seb, we shed some light on IR35, discussing its background, changes and its future.
What is IR35?
IR35 is the name commonly given to the Intermediaries Legislation, which was introduced by the Government in April 2000. The legislation is designed to target people using limited companies to reduce the amount of tax and NI they pay, where they should actually be employees of the person they are working for.
Does it apply to me?
Anyone using a limited company or partnership who tends to work for a client for a prolonged period could be subject to IR35. It could apply even if you have contracts with multiple clients, although each engagement would be considered separately.
How does it work?
Unfortunately there is no definitive way of knowing whether you are inside or outside of IR35 and one of the key problems with the legislation is that there are a lot of grey areas.
Any contractor operating outside of IR35 and taking dividends from their company runs the risk of an IR35 enquiry, where HMRC will conduct a full review of the contractor’s situation.
What is the risk?
If HMRC discover that the contractor is what they call a ‘disguised employee’, they will demand all backdated tax and national insurance that the contractor would have paid had they been a permanent employee of their client.
Obviously for most contractors this could be financially crippling and HMRC will add interest and a possible penalty to the total sum.
What do HMRC look at in an enquiry?
HMRC will look at the written contract that the contractor has with a recruitment agency or client, but they will also review the true facts of the engagement and the contractor’s relationship with his client.
Some of it is common sense; if you are treated like an employee you should be taxed as one. However, there are also a lot of areas that are open to interpretation and that’s where things can become quite protracted and messy.
What can I do about it?
Firstly it’s a good idea for contractors to understand the basics of the legislation before they make any decisions and be very careful not to be pushed into a particular route by an agency or accountant without fully understanding the potential consequences.
When a contractor has a contract, it’s vital that they get it reviewed by an independent expert so they can make a decision about whether to trade inside or outside of IR35.
It’s also worth considering tax insurance, so you get expert representation if you are subject to an IR35 enquiry.