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IR35 is a UK tax legislation which aims to close a loophole in the tax system whereby workers could pay less tax by setting up a limited company (or partnership), than they would if employed.
It is the common term for Chapter 8 Part 2 of the Income Tax (Earnings and Pensions) Act 2003 (ITEPA), also known as the Intermediaries Legislation. IR35 was the name of the press release from the then Inland Revenue which announced the legislation introduced in 2000, and has become the common term to refer to the legislation.
Some of the criteria used to determine whether someone is ‘inside’ (i.e. employed for tax purposes) or ‘outside’ IR35 (self-employed for tax purposes) are common sense; if you act like and are treated like an employee you should be taxed as one. However, there are a lot of grey areas in the legislation and some points which may seem relatively insignificant can have a major impact. Therefore it’s always best to consult an expert before making any decisions over your IR35 position.
As of 6th April 2021, the new off-payroll working rules are in place. This means that the IR35 determination process has changed for those engaged to a medium or large client in the private sector. These changes have already been in place for the public sector since 2017. Click here to find out more.
The simple answer is that IR35 does not affect sole traders. The IR35 legislation applies only to incorporated businesses and therefore a sole trader.
Where a fully contracted-out service is provided, the off-payroll rules are not applicable and the responsibility for determining IR35.
When we talk about the IR35 legislation, we tend to talk about limited companies and rarely mention limited liability partnerships
First issued in 2000, IR35 targets those workers considered in the eyes of HMRC to be ‘disguised employees’. Contractors, being technically self-employed, are not taxed in the same way as average employees, taking dividends from their company and paying far less in National Insurance Contributions. Because of this, HMRC are keen to ensure that those working as contractors (and paying less tax) are indeed genuinely in business on their own account, and are not working in the same way they would have been if employed directly by their client.
The legislation applies to personal service companies also referred to as limited company contractors. These are workers who supply services to an end user via a limited company structure and are both a director of the company, and fee-earner.
As of 6th April 2021, medium-large organisations which engage personal service companies, as well as any such supply chain between the two parties will also need to consider IR35.
'IR35' was the reference given to the budget press release on 9th March 1999 which first announced the legislation. It literally stands for Inland Revenue (now HMRC) 35 (the press release number). You can read the original IR35 press release here.
In an enquiry, HMRC will look at the contract you have with your agency (or end client if direct), so this is the first thing to check when determining your IR35 status. Some contracts will contain negative clauses from an IR35 perspective, so it’s important to have it reviewed as early as possible.
They will also delve into the actual relationship between you and your client, commonly referred to as your actual working practices. If your contract is IR35 compliant but they subsequently find that you are treated like an employee in reality, they will effectively say the written contract is worthless. It is therefore vital to ensure that your contract and working practices mirror each other.
There are a range of IR35 status tests which are used to paint a picture of employment or self-employment. In general, they look to determine whether you are operating like a genuine business providing a contract for services, or akin to an employee providing a contract of service. Using the status tests, the hypothetical contract is built - this is the hypothetical agreement between you as the worker and the end client organisation you provide services to, to determine the taxes to pay.
If you are operating ‘outside’ IR35 and take dividends from your company, you run the risk of being on the receiving end of an IR35 enquiry. This is effectively an investigation where HMRC review your circumstances and ultimately decide whether or not the correct amount of tax has been paid.
If they decide that you are a ‘disguised employee’, working for a 'small' client in the private sector, you will be required to make a deemed payment, effectively paying back all tax and NI you would have paid if you were an employee (plus interest and a possible penalty). This can easily run into tens of thousands of pounds, which is why IR35 is such a big issue for contractors.
What is IR35? IR35 is a complex tax legislation that can be daunting for new contractors. Download our free, easy guide to IR35 now.
Leading IR35 experts, Qdos Contractor, have used their extensive experience to help you survive an IR35 enquiry.
A complete IR35 compliance guide for contractors - explained in simple terms by experts. Find out the key status factors and how to comply with IR35
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