Demystifying the tax legislation that has hounded contractors for two decades. The IR35 legislation can be confusing, even to those with a fairly strong grasp of the rules. If you’re new to contracting or find yourself perplexed by this complex and controversial tax legislation, it’s likely that you’ll have a number of questions that you want answering:
- What is IR35?
- Am I inside or outside IR35?
- What does it mean to be inside IR35?
- What is IR35 reform?
In this article, we’ll answer all of the above and run through the basics of the tax legislation to give you a better sense of what it means for you as a contractor.
What is IR35?
The Intermediaries Legislation (IR35) is a tax that was introduced to stop limited company contractors from working as ‘disguised employees’. In simple terms, it’s meant to prevent you from providing an employee-like service to your client while operating with more tax efficiency as a self-employed worker.
What does it mean to be inside IR35?
When working inside IR35 you are seen as an employee for tax purposes which, in a nutshell, means you will be taxed PAYE but receive no employment rights. From 6th April (the date of the tax reform in the private sector) should you be placed inside IR35 by your client, whichever party pays your invoices will be responsible for deducting the right amount of tax and paying this directly to HMRC.
Operating inside the tax legislation doesn’t mean you need to work via an umbrella company or take drastic action like closing down your business, though. Far from it. You can work on simultaneous contracts, one that sits inside and one that sits outside the rules. While other benefits such as paying into your pension is still a legitimate business expense, which will help you minimise your Corporation Tax bill.
What does it mean to be outside IR35?
Contractors compliantly working outside the IR35 rules are seen to provide a genuinely self-employed service to their clients. You’ll remain responsible for paying your own tax, which gives you the opportunity to operate with greater efficiency.
So to recap, an inside IR35 contract resembles employment, while an outside IR35 contract reflects a business to business engagement. Inside IR35 contractors are taxed like employees while outside IR35 contractors pay tax like any other small business owner.
Am I inside or outside IR35?
This is where things get slightly tricky. Perhaps the biggest problem with the Intermediaries Legislation is its ambiguity. Many different factors need to be taken into account when deciding if a contractor delivers a service to their client as a self-employed worker or in a manner akin to an employee. Does the contractor have a right to provide a substitute? Do they fall under the direct control of their client? Does a mutual obligation exist for the client to offer work and for the contractor to accept it? These are just a handful of things taken into account when setting status.
Needless to say, the situation is rarely black and white, which is why contractors have become so frustrated with the legislation.
What is IR35 reform?
In short, the Intermediaries Legislation reform will transfer the responsibility for deciding IR35 status from the contractor to the client. These changes were initially rolled out in the public sector in 2017 and will arrive in the private sector on 6th April 2020. The key difference between public sector and private sector reform is that ‘small’ private sector firms will be exempt. This means contractors who work with a company that meets HMRC’s criteria for ‘small’ will be able to carry on deciding if they provide a self-employed or employed service to their clients.
Why does Intermediaries Legislation compliance matter?
If HMRC finds you have been wrongly working outside the legislation when your contract belongs inside the legislation, you will be made to settle the employment taxes you should have in theory been paying for the time spent working outside IR35. The taxman can even add fines, interest and other penalties for breaking the rules.
This can amount to tens and sometimes even hundreds of thousands of pounds, which is why many contractors take out IR35 insurance to protect themselves. While the reform means the fee-paying party (your recruiter or client) will become liable for non-compliance, HMRC can investigate contracts that took place up to six years ago – before the changes arrived and when contractors carried the risk.
So in answer to the original question, ‘what does IR35 mean for contractors?’, it means a lot. Not only can it have a big say on how much you take home each month after tax, but being found guilty of operating under the wrong Intermediaries Legislation status in years gone by can result in huge retrospective tax bills.
With over 20 years’ experience in supporting contractors, QAccounting is one of the UK’s leading contractor accountants. Offering a range of trusted accountancy services, including IR35 contract reviews through our partner, Qdos Contractor, we are rated 9/10 by contractors. To learn more about our IR35 status reviews or any of our accountancy services, please request a callback – one of our friendly accountants will be in touch.
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