What is IR35?
Employees and independent workers
As a business, when you need help you can hire someone who is an
- employee or
- independent worker or contractor – an independent. We sometimes also call these workers freelancers, outsourcers or consultants. The work is sometimes also known as ‘off-payroll’ working.
Each relationship is very different.
How are they different?
An employee works under a contract of service. They are under your control – you tell them what to do and how to do it. They are entitled to certain rights and benefits (like sick and holiday pay). If an employee is ill, they can’t send someone else to do their work instead.
An independent worker or consultant works under a contract for service. They run their own business, usually a limited company. You hire that business to do specific work or a project. For example, you might need an IT consultant to design software. They are not under your control, nor do they have any employee benefits. If the consultant is ill, they can send someone suitable to do the work for you. You might hire the independent through an intermediary like an employment business or agency.
However, HMRC say that the off-payroll working rules are “unlikely to apply” if the independent worker or consultant is “employed by an umbrella company”.
What is IR35?
IR35 is the name given to the rules (law) about independents who work either through their own limited company or an intermediary. The rules are to make sure that they are not classed as self-employed when they are your employees.
Why does it matter?
IR35 is about tax saving or tax avoidance. If someone is inside IR35 (working like your employee) then they must pay PAYE tax and National Insurance (NIC).
Employees get certain benefits like holiday and sick pay. However, they can’t take advantage of certain self-employed tax rules. This usually means they get less money than independents at the end of the month.
As an employer, it means that an employee must be on your payroll. Most employers must then also pay NIC and pension contributions for that employee.
IR35 has been around since 2000 and been updated a few times. The last update was April 2021. 2021’s update dealt with who is responsible for deciding your relationship (employment status) with the independent.
There are things to consider when you work with an independent worker or consultant, including the following:
(1) Employment Status – decide on your relationship
If you are working with an independent worker or consultant, it’s important that you are both clear about that relationship. What is their employment status? Are they employed or an independent?
There are strict rules about who decides an independent’s employment status completed using a Status Determination Statement (SDS). You need to do the SDS for every new contract (project /work even if it’s with a known contractor.
Since April 2021, the hirer (end client who is using the services) must decide the employment status if they are
- Public sector or
- A medium or large-sized organisation outside the public sector.
Medium or large-sized organisation?
A medium or large-sized organisation outside the public sector is one that currently meets two or more of the following conditions:
- an annual turnover of £10.2m or more
- a balance sheet total of £5.1m or more (total assets before deducting any liabilities).
- more than 50 employees.
There is a simplified test for certain organisations who have an annual turnover of 10.2m (such as those who are not a company, limited liability partnership or an overseas company) and different rules for connected and associated companies.
So, the independent worker/consultant or agency now only decides their own employment status when the hirer is a small business. However, a small business must provide evidence of their size within 45 days of the independent worker/consultant or agency asking for it.
Don’t imagine that if you’re a small business nothing to do with IR35 applies to you. Small businesses must still consider IR35 because whoever pays the independents’ fees (‘fee payer’ which could be a ‘small size’ agency/intermediary) is liable for tax payments (PAYE etc).
There is still some confusion about the IR35 rules and businesses are trying to adapt the rules regarding SDS and IR35 obligations and responsibilities generally.
The government have also produced a ‘Check Employment Status for Tax (CEST)’ tool which can be used by hirers, independent workers/consultants or agencies to
(2) Make sure that you have a written contract
This need to be clear about the independent’s status and who is responsible for what. This needs to include:
- Control – you cannot control the independent as if they were an employee. They should be allowed to do the work in the best way they consider is right to achieve results.
- Substitution – the independent should be allowed to substitute themselves for another person with the same skills.
- Mutuality of obligation – you do not have to offer them work in the same way you must for an employee. If you do, the independent doesn’t have to accept it.
(3) Make sure that you work with them as an independent.
You need to make sure that how you work with the independent is what you have agreed in your contract. You can’t just say that you won’t control how they do the work and then insist it’s done your way.
So to recap, what is IR35?
IR35 applies to you when you hire and independent worker or contractor operating through a limited company or intermediary (like an employment agency or business).
Make sure that you understand the rules. Get it right to avoid HMRC asking you for employee PAYE back pay.