IR35 Advice

The sun was shining, all was well in my contracting world, and then someone spoiled it….by mentioning the dreaded ‘IR35’!                              Topics              Getting started & setting up Benefits of contracting Sole trader vs. limited company Tax tips    Contractor expenses  IR35 advice Downloadable forms                                       Yes, we saved the worst to last – IR35. IR35 is a constant source of concern and angst to contractors. If we had a penny for every time a clients asked about IR35 we’d be rich…or at least able to make a decent living! But, fear not, in this piece we explain what IR35 is and what to do about it so you don’t have to worry. Specifically, we'll outline the areas to consider and factors you should try to have in your contract with your client. Finally, we'll summarise these for you and give you a handy checklist to use in reviewing your status. If you’re very nice to us (aka buy us a pint) we’ll even review your contract for you to make sure you’re outside of IR35. A final comment: the coalition government has said that it will replace IR35. However, until then, we'd advise that you to take the necessary precautions we describe. Back to Information Centre Home.

What the heck is IR35? 

IR35 is tax legislation that was introduced to stop people trading as limited companies who in HMRC’s view were actually operating as employees and who should be taxed accordingly.

The name IR35 stems from the original press release announcing the new tax rules.

The motivation of introducing this was to tackle tax and national insurance avoidance schemes through the use of intermediaries such as partnerships or limited companies.

When this was introduced it caused great concern among contractors. That’s a polite way of saying it, by the way! A contractor that gets caught out can face serious financial penalties.

To make matters worse, it's not always clear whether a contract is within the IR35 or not. Rather, it is open to interpretation and judged on a case-by-case basis. Very helpful? Not!

If your contract is caught within IR35 income is deemed as salary and income tax and NI contributions are deducted as if you're an employee. You’d typically receive 25% less take-home pay than you would if your contract was outside IR35.

Back to top

So, what should you do about it?

While IR35 can appear daunting the correct planning and foresight will ensure that you remain outside IR35 and never have to worry.  This is very much a pre-emptive strategy.

As a contractor operating through a limited company you must take steps to ensure that you are not caught by IR35 and become the subject of an HMRC investigation.

The main point to consider is the contract you have with the client and you relationship with the client.  You need to be able to point to a number of factors that demonstrate you are not an employee but a separate company. These are discussed below.

Back to top

Areas to consider

Your contract

In looking at your contract you need to consider both the physical written contract and what's called the notional contract. Eh? Don’t worry, let’s explain:

The physical contract is the written document, which should be well worded in your favour.

But, in addition, HMRC will look at the notional contract -- i.e. the true relationship that is formed between the contractor and the client. This involves looking at what actually happens in the workplace and the day-to-day operations on the job.

Another issue is whether you have a 'contract for services' versus a 'contract of service'. The former is where the client engages your company to provide services to them and the latter is where the client engages you as a named individual to provide the services. Make sure that the former is the case.

Control

You must demonstrate control over your business - i.e. that you are the key decision maker and you decide when to work, how to work, and where to work.  Remember, you’re the boss!

Your contract should make it clear that most of the decisions about the service you provide will be made by you; as part of this you should have the flexibility to decide what hours you work, who else from your company can do the job, and provide your own equipment.

The client should have no say in how you perform the work -- that should be at your sole discretion.

Mutuality of Obligation

Say what? Mutuality of who? Actually, this is quite straightforward and is a key test of employment status.

In a normal job your employer is obliged to provide work for you to do and you as the employee need to accept it. There is the expectation of regular employment on both sides until or unless the employee is made redundant or leaves.  

For most contractors this does not exist and helps in arguing that the contract is outside IR35. After an initial contract, the contractor should not be obliged to accept another nor the client to offer a new contract or further payment.

When a contractor regularly works with the same client on rolling contracts HMRC will say this suggests employment. If you're doing whatever work is available and not specific project work this makes it worse.

You should be able to demonstrate that you have the right to refuse further work from the client. You should not be obliged to turn up at a client's office every day and should be able to pick and choose what assignment you work on.

Contractors who have multiple clients will be at less risk of IR35 since they regularly accept or refuse work from more than one company. So, if you can, try to avoid to long contracts with the same client. Besides, we wouldn’t want you get bored, now would we!

Right of Substitution

No, this doesn’t mean seeing a half day as half time and substituting yourself with someone else because you’re knackered! Though, that would be nice wouldn’t it!

Rather, if you are providing a genuine service then another contractor with your skill set should be able to provide the same service and take your place.

As part of this you and not the client should have the choice of substitute to ensure that the right of substitution is unfettered and you should be able to control who you substitute.

If you do have the right to replace yourself with another contractor with the same skill set then you're obviously not providing the services yourself as an employee would.

Practically, this is unlikely to happen very often but having this clause in your contract definitely helps.

Financial Risk

Employees are protected from financial risk if, for example, a company decides to terminate a project early. In that case an employee would still have his or her job.

However this is not the case for the contractor. In this instance, the contractor's position would be terminated despite the project ending prematurely.

In this case you demonstrate that you are taking the financial risk associated with the work and do not enjoy the same protection as an employee. As part of this, the contract needs to show the price or fee for the work and the date of completion as opposed to simply stating a set number of hours per week for an hourly rate.

Part and Parcel

No, this has nothing do with parcelforce! This means - you need to make sure that you distinguish yourself from a regular employee and can't be accused of being 'part and parcel' of the client's organisation. Unfortunately, there isn’t a clear definition of what this means.

Practically, try not to accept any of the normal trappings of an employee such as:

 - A company pass that automatically lets you in and out the building

 - Becoming listed in the company telephone directory (like a regular employee)

 - Accepting business cards from your clients on behalf of your client organisation

 - Being listed on company materials such a brochures or team documents as part of the client organisation

 - Being given access to facilities and perks such as a company gym (Let’s be honest, you’re too busy anyway right?).

Obviously, some of these like not getting a pass may not be practical. However, you should be able to point to a list of key differences between yourself and the client's employees.

Other indicators might be: no set hours, no benefits or pensions arrangements and so on.

Provision of Equipment

This test can be difficult since you often will be required to use your client computers and networks. If you can try to demonstrate that you bought your own equipment and that you use this to complete client work. Keeping a record of what equipment you bought and being able to demonstrate how you use it to provide services to your clients will help.

Business equipment includes: computers, software, phone and broadband, office equipment, stationary, and business insurances.

In Business On Your Own Account

You need to be able to demonstrate that you are legitimately in business supplying services via a limited company.

It helps if can you demonstrate activities like sales and marketing, proposal development, and advertising.

Tangible examples of a real business being conducted will include a website, stationery, listings in business directories, advertising in trade publications and subscription to trade magazines. Sorry though, Gardening Weekly won’t count – unless you’re Sarah Beany!

When naming your company avoid using your own name as this clearly impacts the right of substitution. Also, avoid using the word contractor in the title. Besides, John Smith Contracting Limited is very dull and unimaginative. You can do better than that!

Also, attending training courses and subscribing to trade journals will be indications that you are in business for yourself. Never charge any of these back to the client as expenses as this might be used as evidence of you being an employee.

Finally, having more than one client at any one time is a strong indication of being in business for yourself. However this is treated on a case-by-case basis.

Back to top

Summary - key points & checklist

So, those are some of the key points to consider in relation to IR35. We hope this has helped.  To recap, use the following checklist ensure that you put the following in place:

- get your contract right and ensure it is properly worded
- ensure that you are offering services as a company and not an individual -- ensure the provision of substitution
- ensure that you have a contract for a fixed term that is not renewable
- display clearly that there is no mutuality of obligation
- set your own hours of work and ensure that you can determine, for at least part of the time, where you work
- pay your own expenses and factor these into your daily rate
- pay for your own holidays and never accept any holiday entitlement, sick pay or related benefits from the client
- supply your own equipment where possible

Please don't let it put you off or become unduly scared. Simply take the right steps to cover yourself and ensure you stay on the right side of the legislation.

In addition, the new coalition government looks set to replace IR35 with something simpler, fairer and more manageable. However, until they do, better be safe than sorry – as my gran used to say! Here at MyAccountantFriend.com we can advise you and we're always here to help. Please don't hesitate to contact us if you have any questions.