The off-payroll working reforms were brought in for the public sector from 6 April 2017 and will be extended to the private sector from 6 April 2020.
However, the new rules as proposed in Finance Bill 2019/20 will apply to all engaging organisations in the public sector, but only to medium and large-sized engaging businesses outside of the public sector. They will not apply to the self-employed who engage other workers.
Where the rules do apply, the organisation, agency or third party paying the worker’s company will need to deduct income tax and NICs and pay the employer’s NICs.
The revised IR35 rules will also require the engager to issue a status determination statement and allow contractors to challenge it.
Where the individual works for a medium or large-sized engager outside of the public sector, through their own personal service company (PSC) and they fall within the rules:
- the party paying the worker’s PSC (the fee-payer) is treated as an employer for the purposes of income tax and Class 1 NICs.
- the amount paid to the worker’s intermediary for the worker’s services is deemed to be a payment of employment income or of earnings for Class 1 National Insurance contributions for that worker.
- the party paying the worker’s intermediary (the ‘fee-payer’) is liable for secondary class 1 NICs and must deduct tax and NICs from the payments they make to the worker’s intermediary in respect of the services of the worker.
- the person deemed to be the employer for tax purposes is obliged to remit payments to HMRC and to send HMRC information about the payments using RTI.
Small business exemption
As the legislation only applies to medium and large businesses outside of the public sector, those engaging companies that are ‘small’ do not have to apply the rules.
The PSC which provides services to small engagers will continue to assess the status of its own workers or directors and be liable for their tax deductions, where appropriate.
Small businesses are those which meet two out of the following three threshold tests:
- annual turnover – not more than £10.2m
- balance sheet total – not more than £5.1m
- number of employees – not more than 50
Assessment is made to the financial period ending in the previous tax year. For companies, joint ventures and LLPs this will be the period ended before 6 April 2020 for the 2020/21 tax year. For individuals and partnerships running tax year basis, they will assess using their 2019/20 turnover for the 2020/21 tax year.
Individuals must only consider whether they should assess where they are taking on contractors as part of their business. If services are performed in a personal capacity for an individual, this need not be considered.
Any business identified as small using the above guidance will still be required to assess if it is the subsidiary of a large or medium-sized parent. If the ultimate parent company is not small under the above individual business definition then all of its subsidiaries will not qualify as small.
Additionally, where the parent company is small, but using the aggregated group accounts for the previous financial year, the group exceeds the small threshold, the parent will be considered not small for these purposes, and all group members subject to this legislation.
The aggregate rules apply where two or more of the following qualifying conditions are met;
- aggregate turnover – not more than £10.2m net (or £12.2m gross)
- aggregate balance sheet total – not more than £5.1m net (or £6.1m gross)
- aggregate number of employees – not more than 50
The new disagreement process provides for a 45-day period, beginning with the day the challenge is made, where the engager must either:
- inform the worker or deemed employer that they believe, after consideration, that the conclusion is correct; or
- give the worker and the deemed employer a new status determination statement (SDS), withdrawing the first one.
The engager must also give the reasoning for deciding that the conclusion is correct after it has been challenged.
If a new SDS is given then it is treated as having been given to the deemed employer by the person immediately above the deemed employer in the chain. In the event that the engager fails to:
- comply with the 45-day rule; or
- a) or b) above; or
- fails to provide the reasoning;
- the engager will take the place of the fee-payer.
This means the liability to deduct the payments for tax is effectively transferred from the fee-payer to the engager if the engager defaults in this disputer process. This is a critical point because the engager could very easily find themselves in default for an administrative error.
HMRC will publish detailed guidance for organisations and both general and targeted education packages, including webinars, workshops and one-to-one sessions with businesses in particular sectors.
Enhancements will be made to the check employment status for tax (CEST) tool, which will be tested by legal and operational experts and stakeholders.
HMRC says the improved CEST will be available later in 2019. This is earlier than HMRC originally suggested, so let’s hope it is available before April 2020.
The government has confirmed that the reform is not retrospective. HMRC will focus on ensuring that businesses comply with the reform for new engagements, rather than reviewing past cases.
HMRC has also confirmed that it will not carry out targeted campaigns into previous years when individuals start paying employment taxes under IR35 for the first time. An organisation’s decisions about whether workers are within the rules will not automatically trigger an enquiry into earlier years.
The 5% allowance
This is currently available to those who apply the off-payroll working rules to reflect the costs of administrativeistration. It will be removed for engagements with medium and large organisations. It will, however, continue to be available for engagements with small organisations.
The pension contributions that were mooted in the consultation document have not been included.
The production of the status determination statement and what happens to it after it is issued plays a pivotal role in deciding who is liable for any IR35 tax and NIC.
What is the SDS?
Under the revised form of IR35, the engager (referred in the law to as the ‘end client’) will decide whether a worker is caught by IR35 or not. However, only engagers who are themselves not ‘small businesses’ will have to do this.
The engager must notify the worker of its decision about the worker’s status in a status determination statement (SDS). The SDS must explain the reasons for the decision and the engager must take reasonable care in reaching the decision. It is clearly envisaged that the SDS will be a written document.
The IR35 tests are not changing but the party liable for the tax and NIC, should IR35 apply, does change from April 2020 for large engagers.
Unless and until the engager provides an SDS to the worker personally, the engager will always be liable for any IR35 duties. Where, as will often be the case, the engager is contracting with an agency the engager can pass the SDS to the agency, with the result that the agency then becomes the liable party, as long as the requirement to give the SDS to the worker is complied with.
If the agency is contracting with another intermediary the agency can, in turn, pass the SDS to that intermediary, which in turn becomes liable to pay the tax.
The SDS is passed on through the supply chain until it reaches the personal service company (PSC). The buck eventually stops with the last person in the supply chain paying the PSC directly. The SDS can’t pass down to the PSC, so the PSC will no longer be liable for IR35 (unless the PSC has provided any fraudulent document to do with the employment status test).
The person who is liable for the IR35 tax (referred to as the ‘deemed employer’) must deduct PAYE tax and employee’s NIC from the payments they make to the next person in the supply chain as if the worker were on their payroll.
The law also permits anybody in the supply chain to pass on a deduction they have suffered to the next party in the chain. However, employer’s NIC liability, as well as the apprenticeship levy liability, remain with the deemed employer and there is no statutory right to deduct these liabilities, although in practice many deemed employers will probably do so regardless.
Challenging the decision
The new IR35 rules allow either the worker or the deemed employer to challenge the SDS and make representations to the engager who issued the SDS. The engager then has 45 days to either confirm, with reasons, why it upholds the SDS or to withdraw and replace the SDS with a revised decision. The draft law doesn’t say that such representations have to be in writing.
If the engager does not comply, the IR35 tax liability shifts back to the engager. Unlike the pass-the-buck procedure with the SDS, it appears from the current draft law that this liability shift is final and conclusive: it can’t be corrected by complying with the process outside the 45-day window once the deadline is missed.
The clock starts ticking upon receipt of the SDS challenge, which is a problem for agencies in the chain. For example, an agency might believe it is liable for the IR35 tax and thus entitled to make PAYE deductions. But that agency won’t know whether a worker has challenged the SDS issued by the engager, or whether the engager has responded.
HMRC has consistently got IR35 wrong in a number of recent cases. However, engagers are expected to make an accurate status determination in this notoriously complex field of law.
The revised IR35 rules seem designed to nudge engagers towards using HMRC’s check employment status for tax (CEST) tool.
The CEST tool may provide a reasoned conclusion on IR35 which would satisfy the SDS requirements. However, in many cases, the CEST tool returns an “unable to determine” conclusion. This is not an option open to the engager. An equivocal conclusion is not a valid SDS – the legislation expressly prohibits any sitting on the fence.
However, the CEST tool leans incorrectly towards disguised employment, as it doesn’t take into account the fundamental characteristic of any employment relationship, which is the degree of mutual obligation to offer and accept work (the MOO).
Implications of getting it wrong
Engagers making IR35 decisions that are too harsh or cautious will be incorrectly imposing employer’s NIC and apprenticeship levy liabilities on themselves or others, and therefore will face inevitable commercial problems engaging contractors to do work.
The engager will also have to provide the worker directly with an SDS. It will be interesting to see the response of contractors who are given a document telling them that they are being engaged as a ‘disguised employee’ without any employment rights.
If engagers get things unreasonably wrong the other way, they risk a retrospective IR35 tax liability, as well as penalties for carelessness. The engager may also have missed the opportunity to recover those liabilities from the contractor’s PSC under PAYE, or to pass the liability obligation on to an agency.
The draft Finance Bill clauses give HMRC the power to make regulations to allow it to recover IR35 debts from anybody who is party to the arrangements. This would encompass the engager, the agency or any other intermediaries in the supply chain, the PSC and the worker. However, the precise circumstances of debt recovery are not yet known.
Preparation is key
All parties in the supply chain will need procedures to ensure that an accurate SDS is made, passed on to the correct parties at the correct time and that any challenges to the SDS are dealt with and communicated properly. All this will need to be carefully documented in the case of any dispute about the tax liability.
If anti-IR35 lobby groups do not succeed, then these reforms will be in force from April 2020. Businesses that qualify will need to start taking action now by carrying out employment status audits and putting in administrativeistrative systems.
It is also worth considering outsourcing the whole or part of the process to alleviate the administrative burden and taking out insurance and indemnifications. Given the right approach and some forethought in the planning, it is perfectly possible to maintain a flexible workforce that is outside of IR35.