The off-payroll working rules, commonly referred to as “IR35” — the rules introduced by “Inland Revenue press release 35” — can be complex and confusing.
With ever-evolving case law, scenario-specific rulings and regular changes of tack by the government and HM Revenue & Customs, it can be difficult to find comfort in employment status decisions even where self-employment may seem obvious.
IR35 applies to individuals providing services to a client through their own personal service companies who are not otherwise taxed as employees but would be considered employees if they were to engage with a client directly.
The intention of introducing the IR35 legislation was to crack down on the perceived tax-avoidance problem of so-called disguised employment, but arguably the rules have been disruptive and costly to HMRC, contractors and companies engaging contractors, with court rulings providing little clarity.
In scope or out of scope
A contractor engaging through a PSC is either considered “within scope” (treated as employed for tax purposes) or “out of scope” (treated as self-employed) of IR35. If out of scope, payment is made to the PSC without deductions and the contractor has the sole responsibility of reporting and settling any taxes due.
If within scope, the end client (treated as a deemed employer) must operate PAYE withholding, meaning any payments must be made net of employment taxes — without the contractor receiving any actual employment benefits in return.
For a contractor that can benefit from tax savings if they are self-employed, the negative financial impact of being considered within scope of IR35 can be significant. For the end client, however, the risk of incorrectly providing an out-of-scope determination can be even more significant (through penalties, interest, and additional taxation) with no real upside.
This dichotomy of motivation sheds light on why there is no one-size-fits-all solution for both clients and contractors. It can be challenging to filter through what is relevant and take a position on current case law knowing that appeals are still being fought and decisions overturned.
Despite the legislation being in place for more than 23 years, it can still be difficult to apply the rules with any certainty.
History of IR35
IR35 was first introduced under chancellor Gordon Brown with effect in April 2000. Originally, it was the responsibility of the contractor to carry out their own employment status assessment. However, given the number of self-employed individuals supposedly operating through PSCs in the UK (and the relatively few HMRC agents tasked with investigating each case), HMRC’s view was that non-compliance was rife.
On Budget day in 2016, the government announced that, from April 6 2017, public sector clients would be responsible for determining the employment status of their contractors and for operating PAYE on payments to those deemed to be employed.
In 2021, this approach was extended to include private sector businesses of a certain size, effectively taking the status decision out of the hands of those who benefited most from being self-employed.
