Public Sector Contractors on HMRC’s Radar

Last year saw a number of high profile government workers being accused of tax avoidance which lead to the Treasury introducing guidelines to government departments to regulate their use of limited company contractors, more commonly known as personal service companies (PSCs).

The guidelines now stipulate:

• All senior public sector staff must be on the payroll, except in ‘exceptional temporary circumstances’.
• All contractors earning £220 per day or more, engaged on assignments of 6 months or more, must provide their departments with ‘formal reassurances’ that ‘income tax and national insurance obligations are being met’.
• Departments will be scrutinized to ensure the changes are made, with ‘financial sanctions’ for non-compliance.

Any agency supplying workers to a government department should already have policies and procedures in place to ensure that they are compliant with these guidelines, which includes procedures that provide for formal assurances from the contractor that they operate in a legally compliant manner in terms of payment of tax and national insurance. It is unlikely that a simple written undertaking will suffice in these circumstances.

However, the principle behind the guidelines is not limited to government departments and is applicable to all public sector organisations who engage with limited company contractors.

• Understanding the principles behind IR35 compliance;
• Providing support and training for all their key employees;
• Ensuring that all their documentation in relation to their contractual relationship with the contractor meets the necessary criteria for compliance;
  and
• Ensuring that all their documentation in relation to their contractual relationship with the client meets the necessary criteria for compliance.

What is IR35?

In a nutshell, IR35 came into effect in April 2000 and was designed to stop contractors working through their own companies and benefiting from the resultant tax advantages when they were actually disguised permanent employees.

Essentially if your contractor has the same benefits, responsibilities and control as a permanent employee employed by your client, then it is more than likely the contractor should be classed as inside (or caught by) IR35. Some of the key factors that determine if a contractor is ‘inside’ or ‘outside’ IR35 are:

• Control;
• Substitution;
• Mutuality of Obligation;
• Financial risk;
• Provision of equipment (sometimes, especially in secure sites a contractor may have to use a client’s equipment);
• Right of Dismissal; and
• Employee Benefits.

Risks for the Agency

In terms of government contracts, any agency that does not comply with the new guidelines will risk the loss of the contract.

For agencies supplying contractors to other areas of the public sector, the risks are still substantial.

Generally speaking, our experience has been that agencies have been reluctant to adapt their own contracting terms to support their contract workers, as it has not been regarded as “their problem” if the contract fails under IR35.

A number of court cases have looked closely at the arrangements between the client and the contractor personally and the courts have been asked to deem real employment rights to the individual, irrespective of the fact that there is a company interposed in the contractual relationship. Those who have been working through contracting companies which have failed the IR35 test can now consider whether to claim employment rights from the companies they were engaged to provide services to.

These types of claims can damage both your relationship with your contractor and your relationship with your clients as well as potentially embroiling you as a third party respondent to an expensive employment tribunal case.

IR35 enquiries involving those contractors who ply their trade in the public sector are on the increase and with the Budget due on 20th March 2013 this may prove a tempting opportunity for George Osborne to reform IR35 rules to increase tax receipts in the name of public interest.

Can your agency afford to ignore the risk that is IR35?