Significant changes are on the horizon for IR35, set to take effect on April 6th. This new policy, known as ‘IR35 offset’, aims to prevent double taxation by empowering HMRC to offset tax and NI contributions already paid by contractors, fostering fairer sharing of tax liabilities throughout the supply chain.
The offset provision is likely to encourage engagement with freelancers who provide their services through their own limited company (known as a personal service company or PSC), on an outside IR35 basis, providing a positive impact on the contractor market space.
Rob Rees, Divisional Director at Markel Direct, sheds light on the difference between the current IR35 rules and the changes coming in April, including who is likely to be impacted.
What is IR35?
IR35 rules determine if a contractor is genuinely self-employed or a disguised employee for tax purposes. There are two statuses: inside IR35 (employee-like) and outside IR35 (genuine independent contractor). Criteria has been established by case law precedent in order to evaluate a contractor’s IR35 status which includes:
- Control – does a client exercise, or have the right to exercise, control over what, where, when and how the contractor undertakes the work?
- Substitution – does the contractor have the ability to send someone else to provide their services if they are unable to do so?
- Mutuality of obligation – is the client obliged to offer the contractor work, and if offered, is the contractor obliged to accept?
- Equipment – does the contractor use their own equipment?
- Financial risk – is the contractor open to financial risk during an assignment, and do they have business insurance in place, such as professional indemnity insurance?
- Remuneration – is the contractor paid on a fixed fee project basis?
- Exclusivity – does the contractor work for multiple clients at a time?
- Relationship – is there a clear supplier and customer relationship as opposed to that of an employer and employee?
- Being in business – does the contractor have things like a business website, office space or employees?
Currently in the private sector, where the end client is a medium/large business, they are responsible for determining the IR35 status for all PSC’s they engage either directly or indirectly. The client must then produce a Status Determination Statement “SDS” and pass this on to all parties in the contractual chain confining their IR35 decision. Where the client falls within the public sector, regardless of its size, an IR35 assessment must be undertaken for all its PSC’s and an SDS issued. Where a client considers that an assignment is outside IR35, fees paid to the PSC for the work undertaken will be on a gross basis, the PSC is then responsible for paying their own taxes. However, if HMRC investigates the end-client business and finds that the contractor should have been operating inside IR35, another tax bill is issued for the whole amount of tax and NIC due, resulting in double taxation.
Therefore, this leads many end-clients determining contractors as inside IR35, employee-like, or simply not engaging with PSC’s at all, out of fear and risk of significant additional tax and NIC liabilities.
What changes are being made to IR35 in April?
On April 6th this year, a new policy will be introduced which will look to prevent double taxation in cases where HMRC disagrees with an outside IR35 decision. According to the existing regulations, if HMRC contests a client’s outside IR35 status determination, the deemed employer is subsequently responsible for settling any additional NICs and income tax owed due to the dispute.
Any taxes already paid by the contractor’s limited company are not considered, which is what leads to double taxation.
This new measure gives HMRC the power to offset the amounts of tax and NI contributions already made by the contractor and their intermediary.
When calculating the amount to be offset, there are several types of tax and NICs expected to be included:
- Corporation tax paid by the contractor’s company on income from the assignment in question.
- Tax paid by an individual on company dividends generated by income from the assignment.
- Income tax and employees’ NICs on a salary paid from the contractor’s company, on income generated by the assignment in question
- Any Class 2 and Class 4 NICs paid on income from the assignment
The impact this new policy will have is that tax liabilities will be more fairly shared through the supply chain. What this means is that clients, or other deemed employers, will no longer bear an unfair tax burden in cases where the determination is challenged. This is expected to alleviate somewhat the concerns surrounding the engagement of PSC workers.
Who this new policy will likely affect
- Freelancers/contractors utilising an intermediary, like their own limited company (referred to as a personal service company or PSC), who would be considered employees if hired directly.
- Medium and large-sized clients, partnerships, and individuals hiring individuals who operate through their own intermediary channels.
- Public authorities and agencies hiring individuals who operate through their own intermediary channels.
- Recruitment agencies that sit in the contractual chain and pay PSC’s.
As a specialist insurer of contractors and freelancers, we understand the challenges IR35 has presented to the self-employed sector. Danny Batey, Senior Tax Consultant at our specialist tax consultancy business, Markel Tax, believes the provision will have a positive impact on the contractor market space. He said: “The new IR35 policy serves as a strong incentive for recruitment agencies and clients to engage with PSCs fairly and on an outside IR35 basis, where the contracts and working practices support this, reducing fee-payers’ tax and NIC liabilities while attracting top contractor talent.
“The offset provision, which affects liabilities assessed on a fee-payer going back to 6th April 2017 for public sector engagements and 6th April 2021 for those in the private sector, is likely to encourage clients to offer more outside IR35 roles, benefiting contractors with exciting opportunities and better financial incentives. Agencies supporting this process become preferred partners, leading to successful engagements with both contractors and end clients. Additionally, assignments outside IR35 enable PSCs to claim T&S, allowing clients to attract contractors nationally, enhancing flexibility and accessibility.”
However, he also warns that the new policy may not benefit everyone, he said: “It may have a negative consequence for umbrella companies who may see a migration of contractors that were forced to engage via an umbrella back to contracting via a PSC.”
Contractors can find more information about navigating IR35 legislation on the Markel Direct website.
