The first part of this guide will give an overall overview of IR35, and the second part will aim to answer frequently asked questions.
IR35 is a piece of UK tax legislation introduced in 2000 to prevent workers from using a limited company structure to pay less tax. The purpose of IR35 is to identify individuals who are considered “deemed employees” and ensure they are taxed as employees, even if they work through a limited company.
The legislation applies to personal service companies (PSCs), which are generally limited companies with a sole or majority director/shareholder who provides services. IR35 aims to close the loophole where workers in an employment-like relationship use a limited company structure to take advantage of tax advantages.
If a contract is deemed “inside IR35,” it means the individual is considered an employee for tax purposes and should pay tax at the same rate as an employee. This includes paying National Insurance Contributions (NICs) and income tax on earnings. However, individuals inside IR35 do not receive the benefits typically enjoyed by employees, such as sick pay or holiday entitlement.
On the other hand, if a contract is deemed “outside IR35,” the individual is considered self-employed for tax purposes and can pay themselves in a more tax-efficient manner, often through a combination of salary and dividends.
IR35 compliance matters because if HMRC determines that a worker has been operating as self-employed (outside IR35) when they should have been classified as an employee (inside IR35), the worker may be required to pay back the missing tax, along with interest and penalties. Non-compliance can have significant financial consequences, as HMRC can investigate up to six years in the past.
Between April 2017 and April 2023, the off payroll working rules (IR35 reform) shifted the responsibility for compliance and determining employment status to the client or recruitment agency in the contractual chain. However, from April 2023, contractors will be responsible for determining their own employment status and will be liable for any incorrect tax payments.
Determining IR35 status can be complex, and various factors are considered, including personal service, control, and mutuality of obligation. Clients typically use HMRC’s Check Employment Status for Tax (CEST) tool or independent assessment services to determine the status of contractors.
It’s important for contractors and clients to understand the implications of IR35 and ensure compliance to avoid potential financial and legal issues. Seeking professional advice and maintaining relevant evidence can help in determining and supporting IR35 status.