In recent months, we have been inundated with articles about the imminent changes to the IR35 rules and this got me thinking about the issue of employment status and what these changes will mean if anything.
As an employment lawyer I often become bogged down in the legal intricacies of someone’s employment status, but when it comes down to it, what does it all mean and how much does it really matter?
I think if you asked most business owners or managers if they knew the difference between an employee, worker or a self-employed contractor, the majority would struggle to answer as would the majority of the general public. Sometimes even us lawyers are left scratching our heads.
But the key question to consider is, does it really matter and why?
In short, the answer is that it does matter and particularly so when it comes to HMRC. The whole purpose of the extension of the IR35 rules is to prevent tax avoidance.
The label placed on an individual or what hat they wear can be critical not only in relation to employment law but also in relation to potential tax liabilities.
HMRC have in recent years collected millions of pounds of additional tax revenue as a result of investigations leading to the conclusion that a worker has been wrongly classified as self-employed.
The extension of the IR35 rules now places an additional burden on company’s who engage contractors to carry out work on their behalf.
It has been common practice in a number of industries for an individual to set up a limited company through which they provide their services, known as a Personal Service Company (PSC). In practice the PSC invoices the company they have done the work for and the individual will then pay themselves, usually by means of a dividend and nominal salary.
The benefit and end result being that a lower rate of income tax will be payable. The other benefit of doing it this way is that the individual won’t benefit from the usual rights associated with being an employee, such a holiday pay and the right not to be unfairly dismissed. Similarly, the company having the work carried out won’t have to pay pension or NI contributions.
So, what’s the problem?
The caveat is that failure to adhere to the cumbersome IR35 rules may result in financial penalties including the repayment of up to 6 years’ worth of tax and NI contributions. Ouch!!
From 6th April 2021 medium and large private sector companies will be responsible for confirming the IR35 status of the individuals they contract to work through personal service companies. These companies will also now be responsible for making the correct tax and national insurance deductions when making payments to the PSC.
It is therefore crucial that medium and large businesses reasonably assess the tax status of the people working for them, to avoid exposure for demands from HMRC. Failure to do so may result in significant liability for under paid tax and national insurance contributions.
If you are a small private sector business, then there is no change. The individual with the PSC will still be responsible for confirming their IR35 status. This means that they have the responsibility of making the correct payments for income tax and national insurance.
So that then begs the question as to how you know if what goes on in your business falls in or out of these rules?
This is determined by a number of factors including control, personal service and substitution and mutuality of obligation. In other words, it is all about who controls when, where and how the work is carried out, does the individual have to do the work themselves and is there a right on both sides not to offer work and to turn it down when offered.
It is not straightforward and just because someone is caught by IR35 rules, that does not necessarily mean that they are an employee!
Confused? I don’t blame you!! – how can you be deemed an employee for tax purposes but not for employment law?? The simple answer is that unfortunately, there is no single test for determining status and you can be classed as one for tax purposes and another for employment law.
Whilst it is likely that an individual with a PSC who is genuinely self-employed would most probably fall outside of IR35 and would also not have any rights under employment law, on the flip side if they fall within IR35, it is likely that they could be deemed as a worker or an employee under employment law, bringing with it its own set of responsibilities and liabilities.
If you want to know more or are concerned about how to categorise someone working in your business, contact email@example.com for more information or advice.