It’s talked about an awful lot in the Technology Contracting world, but what does it mean, why does it exist, where did it come from and what does it even stand for!?
Firstly, the easy one, what it stands for. ‘IR’ stands for Inland Revenue (now known as HMRC) and 35 is the 35th press release of that particular budget, the budget given by the then chancellor of the exchequer, Gordon Brown, on 9th March 1999. Labour seemed rather obsessed about contractors not paying enough tax, so IR35 was born. At the time, this was heralded as the end of Contracting (I remember it well as I recall thinking, damn, I’ve only been in this 2 years, I was just getting started!), but my fears were unfounded as 25 years later, we still have IR35 and a very healthy contracting market.
Now also known as the Intermediaries Legislation, it was specifically introduced to combat perceived (not by all I hasten to add) tax avoidance from workers supplying their services to clients via an intermediary, such as a limited company. These people would ordinarily be a temporary employee if the intermediary was not used, or should be a permanent employee and not be working with the organisation on a temporary basis at all. The legislation is designed to ensure that these workers, often referred to as “disguised employees,” pay the same as regular employees. This is a highly contentious issue as contractors via a limited company do not have anywhere near the same rights as an employee, therefore why should they pay the same tax?
Complexity has also become an issue with many claiming that the cost of administering IR35 actually costs more than the tax income it generates. In April 2017, reforms were introduced in the public sector, shifting the responsibility for determining IR35 status from the worker to the public sector body or agency paying them. In April 2021, these reforms were extended to the private sector for medium and large-sized businesses, making them responsible for assessing the IR35 status of contractors. Arguably this no costs even more to administer and outweighs the cost vs benefit even further.
The HMRC developed a determining status tool to determine IR35 status. Known as the CEST (Check Employment Status for Tax) tool it will give an ‘inside’ (“off payroll rules apply”) or ‘outside’ (“off payroll rules do not apply”) determination which the HMRC have said they would stand by. I spoke to an IR35 tax specialist within the HMRC directly myself and they confirmed this on the proviso that the responses to the questions in the tool were accurate. It should also be noted that they need to be kept accurate i.e. if the working situation or status of the contractor changes, the CEST tool should be run again as it might give a different result. Where the CEST tool has been criticised, is when it fails to provide a determination either way. I asked the IR35 specialist at the HMRC what we should do in that instance and they advised us to make our own sensible determination. As it is actually the end client that needs to make the determination, this has led to some further confusion, indecisiveness and reluctance, often leading to blanket bans on contractors or blanket ‘inside IR35’ decisions.
If you are inside IR35 there is no tax advantage to having your own Limited Company. To ensure that tax is paid correctly, this has to be deducted at source, but most professional recruitment businesses used to just dealing with Limited Company Contractors traditionally outside IR35, are not setup to do this at scale. Often a mandatory rule of using an Umbrella Company is imposed and as long as the Umbrella Company is FCSA (Freelancer & Contractor Services Association) accredited, they should be deducting tax appropriately. The fees are reasonably low in this area, often less than the cost of hiring Chartered Accountants for your own Limited Company, but, of course, there is a significant tax disadvantage.
The tax position of being inside IR35 has generally led to contractors asking for two separate rates, an outside IR35 rate and a higher inside IR35 rate. Generally I have found this increase to be around a third, but not all clients are willing to support that. Many highly skilled and experienced contractors simply wont entertain inside IR35 contracts, meaning if you are a client with an inside IR35 assignment to offer, you will lose out on a valuable talent pool which could have a detrimental impact on your business or project. Being as flexible as possible with contractors and treating them as true service providers with the contractors themselves also accepting the various risks associated with independent business service provision, means that there are multiple ways of engaging contractors on an outside IR35 basis quite legitimately and genuinely.
Strategic Insights has extensive experience of providing contractors both on an inside and outside IR35 basis. And, unfortunately, I am old enough to remember and have been working in the IT Contract Recruitment market when all of this began! Please do not hesitate to contact me directly should you wish to discuss any aspect of IR35 further.