Please see updated article here.
In April 2017 HMR&C introduced some legislation for taxing the quasi subcontractor / “not quite” employee. There is an ongoing argument as to whether a worker is self-employed, subcontracting or an employee.
HMR&C have now defined a new category of worker “The Off-Payroll Worker” to start to plug this gap and to collect tax revenues in a slightly different manner.
A worker is involved in off-payroll working when they work for a client through their own intermediary, often a personal service company (PSC), but would be an employee if they were providing their services directly.*
Intermediary
The “intermediary” usually takes the form of a limited company that provides a service (i.e. it is not a manufacturer, wholesaler or retailer) – a Personal Service Company [“PSC”]. The company is generally owned 100% by the person who will carry out the service, and they are usually the sole director too. But this core intermediary set up is only a typical example, it is not a definitive. Intermediaries can be sole traders or partnerships too.
How the problem arose
In the past, typical trade patterns were:
This typical set up also meant that the sole director / shareholder extracted their cash from their company in a tax efficient manner for them; often taking advantage of the fact that corporation tax rates tend to be lower.
“Tax efficient” also generally meant that less tax and national insurance was paid than if that worker had been a direct employee of the customer.
The customer benefitted from such arrangements as they did not have to pay Employer’s National Insurance, nor provide holidays, sick pay, pension scheme, or all of the other rights and entitlements that employees have.
This is why HMR&C became a little unhappy with the process. There is a core belief that these were simply employees under a different name.
There was inherent unfairness in the old approach. Realistically, if there were two people providing the same service to a customer, at the same hourly rate and for the same hours, one being an employee of the customer and the other being via a PSC, the employee would have a right to be unhappy too. The employee would have less cash for doing exactly the same tasks, at the same rates, in the same place for the same organisation.
IR35 has been introduced to regain some balance between categories of workers and to raise revenues. Hence the introduction of the “off-payroll worker” and HMR&C’s aims that these categories of worker should, more or less, pay similar amounts of taxes and national insurances as if they were fully on a PAYE payroll scheme.
IR35 actually refers to “Inland Revenue budget press release 35” that was initially introduced in 1999. The full title was “IR35: Countering avoidance in the provision of personal services” and was directly aimed at intermediaries and how to ensure that appropriate tax was being paid. It’s been an ongoing project that continues to evolve.
How can you tell if you are an off-payroll worker or not?
First of all it is key as to whether the services are provided to the public sector or the private sector.
The key questions are all about the relationship between the intermediary and the customer (but this is not the entire list – there are several factors):
- If there was no intermediary, would the service provider be an employee?
- Would the service provider be an Office Holder? (e.g. director, treasurer, trustee, company secretary)
- Does the service provider work in the construction industry?
- Does the service provider work for a charitable organisation?
- What are the worker’s responsibilities? Who decides what work is required? Who decides when, where and how the work is done?
- How will the worker be paid? Are there any benefits or reimbursement for expenses?
There is much case law about whether workers are or are not employees. The creation of this new hybrid category of worker will no doubt add further arguments to be tried and tested at tribunal.
What will happen?
Public Sector
From the basic trade pattern described above, new steps are introduced:
The intermediary’s invoice is reviewed by the customer. The following items are deducted:
- VAT
- Costs of materials used in providing the service
- Expenses met by the intermediary that would have been deductible from taxable earnings if the worker was employed
This results in the “Deemed Direct Payment”, from which tax and National Insurance Contributions are then deducted. The gross invoice, less tax and National Insurance deducted at source, is then paid to the intermediary.
The tax and class 1 National Insurance Contributions deducted are reported to HMR&C and paid over accordingly.
Private Sector
The approach is a little different. The traditional pattern of trade is followed – i.e. Intermediary raises an invoice and the customer pays it. However, there are some further steps that the intermediary now has to do before the cash can be extracted from the intermediary.
Fundamentally the intermediary now must calculate the “deemed employment payment” to identify the worker’s income.
The intermediary needs information about:
- the payments received by the intermediary
- payments made to the worker (like salary, benefits in kind)
- pension contributions made for the worker
- expenses met by the intermediary
Employers National Insurance Contributions need to be paid by the intermediary to HMR&C as well as tax and National Insurance being due at the end of the tax year.
If the individual extracts any aspect of cash from the intermediary via a payroll, then monthly accompanying reporting to HMR&C will be required.
Additionally when the usual accounting period ends occur, other calculations have to be done to consider the impact of things such as corporation tax. The Worker will also have to disclose the off payroll assignments on their own self-assessment tax returns. It is no longer a straight forward process.
Penalties
There are penalties for not following off-payroll working rules when you ought to have. If there is a deliberate attempt to dis-apply the rules, then the penalties are far more severe.
The public sector already has to apply IR35 rules and they are being very cautious about categorisation of workers. More often than not, they are concluding that IR35 applies; mainly because the consequences for them getting it wrong are quite tough.
There will be debate and challenges in the future for the private sector application of IR35. But that is going to be a matter for the legal system to work it out as various cases reach tribunal.
End of the PSC?
Many public sector PSCs are concluding that IR35 is simply not allowing them to earn the living that they have previously enjoyed.
Some have simply been offered PAYE roles with the organisation their PSC was previously contracting with.
Some have concluded that ending their consultancies altogether to start something completely different is the way forward as the tax aspects are now becoming so complex, that they simply do not have the time nor the inclination to keep up with it all.
Others are sticking it out with their trusted accountant by their side – guiding them through this jungle of tax legislation.
For those that no longer have a requirement for their PSCs, questions are being posed to tax advisors about how to extract the remaining cash in the most tax efficient manner and wind up the company. A Member’s Voluntary Liquidation can assist in the right circumstances.
While public opinion is shifting towards paying tax as a matter of morality and obligations to wider society, it is perhaps understandable as to the approach being taken by HMRC.
However, some have already found it to be detrimental to their livelihoods.
Whichever situation applies to you, it is important that you speak to your tax advisor in the first instance. Plan your strategy, armed with the appropriate knowledge and guidance.
*https://www.gov.uk/guidance/ir35-find-out-if-it-applies
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