What is IR35
IR35 was the number of the press release issued by HMRC following the March 1999 budget. The correct name is Intermediaries Legislation (IR35) but it is mostly referred to as IR35.
What is the purpose of IR35?
The purpose of IR35 is to prevent contractors, consultants and freelancers from trading via their own limited company in order to pay less tax and national insurance contributions (NIC) than if they were employed directly by their end client or agency.
What is the effect of IR35?
The overall effect is to substantially increase the amount of tax and NIC collected by HMRC. This is achieved by removing the option of distributing company profits via dividends, rather than being paid as salaries under PAYE. Salaries incur the cost of NIC contributions, whereas dividends do not. Furthermore, additional tax is payable under PAYE in situations where a company is unable to restrict the amount of dividends distributed, or are paid to more than one shareholder.
When did IR35 legislation come into effect?
The rules came into effect on 6 April 2000.
Who is affected by IR35?
Anyone supplying their services through an intermediary such as a limited company sometimes referred to as a personal service company.
How do I decide if IR35 applies to me?
The IR35 legislation is based on established case law going back to the Ready Mix Concrete case of 1968.
In order for a contract to be caught by IR35, it must include all of the following:
- A requirement for personal service
- Control by the agency or client over how the services are provided
- A mutuality of obligation between both parties
These 3 points can each be explained further as thus:
1. Personal Service
The first factor in determining if a contract is caught by IR35 legislation is personal service. If a contract stipulates or infers that a specific individual is required to carry out the work under that contract, then this is a requirement for ‘personal service’. In other words, a requirement for personal service would mean that a substitute worker could not be provided by the contracting company. It is also important to note that it does not mean that a substitute worker has to be provided during a contract but that the contracting company retains the right to provide a substitute if they wish.
The second factor in determining if a contract is caught by IR35 legislation is control over how the work is actually performed. If a contract stipulates how the work is actually performed by the contractor, then this would signify that the level of control exercised under the contract is more in line with a master servant relationship, and would point towards a contract of employment rather than a contract for services.
3. Mutuality of Obligation (MOO)
The third factor in determining if a contract is caught by IR35 legislation is if there exists a mutuality of obligation between the parties to the contract. That is to say that the agency is obligated to provide work for your limited company, and that your limited company, is obligated to accept and perform that work. Without these obligations, a contract cannot be considered a contract of service.
What other factors should I consider?
As stated above, only the three fundamental status factors of personal service, control and mutuality of obligation can be used to determine whether or not a contract is caught by IR35 legislation. Contracts often contain other factors that are not sufficient on their own to decide IR35 status but do demonstrate that you are in business in your own right and not an employee. Such factors include, but are not limited to, use of your own equipment, insurance requirements, requirement to invoice, immediate termination, bearing financial risk etc.
What contracts will HMRC look at?
HMRC will look at all relevant contracts and associated documents. This will include any contracts between clients, agencies and your limited company.
What will happen if I fail to follow the legislation?
If HMRC discovers that IR35 has not been correctly followed, it will demand full payment of all unpaid tax and NIC including penalties and interest. Penalties may be charged up to 100% of the tax and NIC due, and interest added from the date the original payments were due.
How does HMRC enforce IR35?
Each year HMRC undertakes numerous employer compliance and business record checks. It may also target specific business sectors or individual cases. The most infamous case was that of the Dragonfly case, which was won by HMRC and ended with a £99,000 tax bill for the tax payer! Ignore IR35 at your peril!
How to check your status
Learn more about our recommended IR35 Status Tool, click the button below.