IR35 takes its name from an Inland Revenue press release which heralded the birth of new measures (The Intermediaries Legislation) aimed at preventing the use of intermediaries purely for the purpose of avoiding paying income tax and National Insurance.
Why was IR35 implemented?
The IR35 rules became law via the Finance Act 2000 (Schedule 12).
The Inland Revenue (now HMRC) implemented the rules to clamp down on contractors and other groups of workers who may have been working as permanent employees one day, only to return to the same or similar roles shortly afterwards – but working via their own limited companies.
Limited company contractors pay less tax than their permanent counterparts, and in many cases are not liable to any National Insurance Contributions (NIC) if they draw down their income in the form of a low salary and substantial dividends.
HMRC believe that if the working practices and contract wording of an individual shows that they are, in fact, an ’employee’, then they should be taxed as such. The business structure you work under does not determine your employment status, it is the way you conduct your work which is important.
Are you caught by IR35?
In determining whether or not a contract falls within the IR35 net, the overall picture of an person’s contract wording and working practices will determine whether they are ‘self employed’ or ’employed’.
If you are working on a client site, under direct supervision, using the client’s equipment, and the way you work is similar to the permanent staff in the organisation, you are likely to be viewed as an ’employee’ for tax purposes, and your contract would typically be caught by IR35.
If, however, you can demonstrate that they way you work is more akin to that of a ‘self employed’ person in practice, then your contracts should be free of punitive taxation.
The factors which determine your IR35 status are complex, and it is the ‘overall picture’ that is taken into account when determining an individual’s employment status. For this reason, you should always send your contracts for review by a professional.
You should also consider taking out IR35 insurance, to cover your costs in the unlikely event that you are selected for a status review. This is an inexpensive way to get peace of mind.
What does the future hold for IR35?
Following recommendations made by the Office of Tax Simplification, at Budget 2011, the Chancellor decided to keep IR35 in place, but with a pledge to improve the way the legislation is administered. He felt that the potential tax losses which would result from abolition would be ‘substantial’. He did so on the condition that the current IR35 regime was overhauled, and the way IR35 is administered is significantly improved.
Although the amount of tax claimed by HMRC as a result of status reviews is very small, the deterrent effect is believed to be significant. Many contractors elect to use umbrella companies rather than limited companies as they believe they would be caught by IR35, for example.