On March 17, 2020 the Government announced the delay (not cancelation) of the introduction of changes to IR35. This gives IT contractors some breathing space. By planning ahead, you can ensure that you’re compliant, save tax, and be ready for the changes.
Let’s review some important aspects of IR35 and the tax implications:
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Before assuming you’re caught by IR35, test your working arrangements against three key principles:
- Can I send in another person to work on my behalf? (Substitution)
- Can I refuse to work and is my end client obliged to offer me work? (Mutuality of Obligations)
- What degree of control is exerted on how I do my work? (Control)
HMRC has released an enhanced version of the CEST (Check Employment Status for Tax) tool. It is understood that this tool has been rigorously tested against case law and settled cases by the taxman. HMRC promise to stand by the results produced by the tool, provided the information entered is accurate. So, if you’re not sure, simply take the test or engage a specialist tax adviser to provide you with formal tax advice on your situation.
If you’ve been properly advised that you’re caught by IR35 or the CEST tool suggests so, then the general tax implication is that you’re responsible for paying income tax and NI contributions on an amount called deemed payment.
To calculate this deemed payment on your limited company income for the year, deduct your PAYE salary, a 5% expenses allowance, plus any pension contributions.
What’s left is then treated as if it were the gross cost to the employer (deemed payment). Let’s say if you have £100,000 income, you pay £10,000 as salaries and pay £10,000 into pensions. And let’s say you’re eligible for the 5% expenses deduction. So, the deemed payment which you’ll need to apply income tax and NI on will be £75,000.
If your contract is caught by IR35, the simplest solution is to pay all of your limited company’s income less legitimate expenses and pension contributions as a PAYE salary.
Public Sector IR35
Originally, the responsibility for determining IR35 status was placed on the contractor and not the end client. But in 2017, the rules changed for those working with public sector clients (HMRC, NHS, the MOD and the like). Here the responsibility to prove self-employment status shifted from the contractors to the public sector client. Under this rule, where a contractor is caught by IR35, they will be taxed and pay NI as an employee. There is no 5% deduction for expenses under the general IR35 deemed payment tax calculation.
Private Sector IR35
One of the delayed IR35 changes is called the off-payroll working tax rules. These rules are aimed at big private organisations (see exemptions and options below). Again, it shifts the burden of determining the employment status of contractors or workers from the contractor to the private organisation. So, in effect similar to the public sector rule but with some differences, including the need for the private sector client to carry out an assessment of the employment status of the worker and provide a “Status Determination Statement” (SDS).
Under the new rules, the fees paid to the contractor, called the "direct deemed payment" are to be treated as employment income. This means PAYE and employee National Insurance is deducted from that direct deemed payment. The entity paying the contractor, which could be the agency or hirer, has to pay their employment taxes on top.
It is important to note that the new rules do not apply to all private sector end clients. Those clients qualifying as “small” will fall outside the scope of the new rules. The companies act definition of small company will be used for this purpose. Therefore where the private sector client does not have a turnover of more than £10.2m, balance sheet value of more than £5.1m and employees of more than 50 (remember any two of the three tests will suffice) then it does not have to assess the employment status of its workers.
Options under the private sector IR35
As stated above, some companies are exempt from the new rules, so there is always the option of working with these companies and not with the big banks and PLCs. A second option would be simply to accept employment contract(s) with your end client(s). Alternatively, you could choose to work under an umbrella company where they deduct your taxes and pay over to HMRC.
What if HMRC suspects fraud?
With the private sector IR35, HMRC has recently announced that it will only use the information it gathers from the new rules to open an enquiry into earlier years if there is reason to suspect fraud or criminal activity. This will be welcome news for contractors who are worried that a change in their status stipulated by their private sector client will lead to costly investigation. But bear in mind that the offence of fraud (or cheating the public revenue) is wide ranging and can catch behaviours including withholding PAYE/NI and failing to disclose income.
In the context of IR35, it is not yet clear how HMRC will view a situation where PAYE/NI is not accounted for and where deemed payment income is not disclosed. With the complex rules around IR35, it is envisaged that HMRC will adopt a pragmatic approach.
Closing your limited company
Unfortunately, it may turn out to be the case that many contractors find the new rules lead them to close their limited companies.
If you have cash in your company you need think about the tax efficient way of closing the company. It may well be that you can pay only 10% tax on the funds left in the company rather than high income tax rates. Seek tax advice in this scenario, as HMRC may argue the point.
Jonathan Amponsah is Founder and CEO of The Tax Guys
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Jonathan Amponsah CTA FCCA is an award-winning chartered tax adviser and accountant. Jonathan is the founder and CEO of The Tax Guys.
As you will expect from an award winning Chartered Tax Adviser and Chartered Certified Accountant, he does all the normal stuff with excellence to keep businesses compliant, out of trouble and improve their financial positions.