New rules affecting contractors may affect the way you are taxed, says KAREN HARVIE
It’s a topic which has been the subject of hot debate for what seems like an eternity but the changes to off payroll rules, or IR35, are finally in place. So what do the changes mean, and who do they affect? In short, how is the income you earn from working now being taxed if you’re not actually an employee?
Well, as a rule, if you’re a standard, salaried, employed individual, then the tax system is fairly straight forward. In general, you’re taxed at source and your employer takes care of it.
However, in recent years, we have seen a marked increase in individuals leaving salaried employment and becoming a contractor, providing services through their own company. This has been particularly prominent within the financial services sector, though it has also been a common feature of the construction industry for many years.
In a nutshell, the individual is doing the same job, and the company is receiving the same service, but it is no longer an employee/employer relationship. It has now become a supplier/client relationship.
And there are benefits for both. For the company receiving the service, they no longer have the normal employee obligations, such as paying employer NI contributions and ensuring employment law rights. For the provider, they can pay themselves a salary and they can also draw dividends, meaning they pay less tax and NI than they would as an employee.
Businesses will be familiar with IR35, first introduced in April 2000. This was the government’s first attempt at introducing measures to counter tax avoidance by the provision of personal services through an intermediary company, or personal services company (PSC)
Ultimately, to be caught by IR35 meant that the individual supplying the service was considered by HMRC not to be a genuine self-employed contractor, but a disguised employee, the consequence of which was that they should be deemed subject to income tax and NIC as though they were an employee. Critically, the responsibility for making that determination and paying the tax fell on the PSC.
However, HMRC recognised that there had been significant non-compliance by PSCs with IR35, and it decided to introduce reforms to deal with this.
‘The new rules add to what is already a convoluted tax rule book, but there are steps a company can take to ensure compliance’
The new rules have the effect of transferring responsibility for determining whether an individual is a disguised employee from the PSC to the client end-user (where it is medium or large – if the client is a small business, responsibility remains with the PSC), where the client will decide whether the individual is caught by the rules. The client will become responsible for deducting and accounting for income tax and NI via payroll. If they fail to do so, the consequences can be serious and expensive, with interest and penalties applying.
The new rules add to what is already a convoluted tax rule book, but there are steps a company – those receiving the service – can take to ensure compliance.
Identifying individuals who are supplying services through PSCs will be vital, as will determining if the off-payroll rules apply to any contracts that extend beyond 6 April. In addition, you must prepare and give the worker (and the PSC) a “status determination statement”. Until this is done, the client is responsible for deducting tax.
For the individual, or supplier, whilst the new rules effectively tax contractors as employees, importantly they do not suddenly become employees for the purpose of enjoying normal employment rights such as holidays, or sick pay. As a result, it can be difficult to see the benefit to an individual of continuing to provide services through a PSC.
Overall, the new rules will mean the cost to the client and the benefits to the individual are not what they once were when they entered the arrangement, which could result in full scale termination and renegotiation of how things should proceed.
There is of course much more to this new employment regime, with implications for both the supplier and the client. Employment law can be a complex and confusing area, and it’s easy to fall foul of the rules. With the new rules now in force, if you’re not familiar with the new environment, whether you’re an individual or business, get the right advice, and soon.
Karen Harvie, Senior Associate, Employment Law, Aberdein Considine