In basic terms, the IR35 tax law exists to stop contractors, consultants, and freelancers ‘pretending’ to be self-employed while working as if a permanent employee at a company, in order to avoid paying tax.
Essentially, it stops someone ‘disguising’ themselves as self-employed in order to pay less tax and national insurance, while also having full benefits of an employment relationship as if they were on the payroll. This is known as ‘Off-payroll working’.
What is the difference between someone who is an employee and self-employed?
An employee of a company is under an employment contract. They pay tax through PAYE and are entitled to certain rights such as sick pay, maternity leave, pension schemes, as well as an employee benefits package, which could include company discounts and professional development training.
When you are self-employed as a contractor or freelancer, you are essentially running your own business, where your services are then hired by clients.
You will be able to choose your own hours and working schedule, but you won’t get paid time off (PTO) for holidays, sick days or maternity/paternity leave, and work could be sporadic or irregular. You won’t pay tax via PAYE and instead would need to fill out a self-assessment form.
What does ‘Inside IR35’ mean?
Being Inside IR35 basically means that you are contracted by a client and HMRC sees you for all intents and purposes as an employee of the client. Therefore you will need to pay just as much tax and national insurance as an employee.
This may be the case if your contract between you and the client specifies details of your working hours such as specific days and hours, you only work for one client, you are supervised and not in full control of the services you provide, or you are provided equipment for working.
Something to also bear in mind is if there is a Mutuality of Obligation (M.O.O.) present, which means that there is an expectation of continued work on both sides of the contractual relationship.
If you are Inside IR35, you will be subject to PAYE as you’ll be regarded as an employee for tax purposes, but you won’t get the other employee benefits such as paid leave, maternity pay etc
What does ‘Outside IR35’ mean?
Outside IR35 means that you are operating as a genuinely self-employed contractor, consultant or freelancer. This means that you are allowed to pay yourself in the most tax-efficient way with a salary and dividends (which are taxed at a lower rate than income tax).
It also means that your contractees are not obligated to pay the employer’s National Insurance Contributions, paid time off, sick pay or into a workplace pension for you.
Some good indications that you are Outside IR35 could be that you work with multiple clients at the same time, you choose your own work schedule, provide your own working equipment and there is no expectation of continuous work. You may also have your own professional indemnity insurance cover
How have the IR35 rules changed?
When the IR35 legislation was first introduced back in 2000, the responsibility was on the contractor to determine if they were inside or outside IR35.
In 2017, amends were made for the public sector, so that the responsibility to determine IR35 status was moved from the contractor to the employer.
From 2021, the change from the private sector was rolled out to the private sector, for medium and large-sized businesses. This means the onus is now on the employee to determine if IR35 applies to any of their hired contractors and an employer should now issue a Status Determination Statement to their contractors to clarify their IR35 status.
Small businesses are not affected by this reform, so any contractor working for a smaller company is still liable to establish if IR35 applies to them. A small business is defined as having 2 or more of the following points:
- An annual turnover exceeding no more than £10.2 million
- A balance sheet totalling no more than £5.1 million
- 50 employees maximum
When did the IR35 rules change?
The rules changed in April 2021. It was due to come in April 2020 but was pushed back a year due to the pandemic.
What happens if I am not IR35 compliant?
If HMRC believes that you are not IR35 compliant or are inaccurately portraying yourself as a contractor, they can raise an investigation.
The triggers for an investigation are understandably not specifically set out by the HMRC but it can range from what it believes are simple, genuine errors, to negligence and carelessness, right up to specific intent to act fraudulently. If they suspect that tax avoidance has taken place, they can look back as far as 20 years in their investigation.
It is the HMRC’s responsibility to provide proof of any non-compliance, but if successful, many penalties can be issued, including the obligation to pay back the missing tax that you owe, and a fine.
Is an IR35 Insurance Policy worth it?
Although there is no legal obligation to have IR35 insurance, it may be a useful policy to have. For instance, you might be in a situation where you have complied with IR35 but an investigation has been brought against you. In this case, you will still need to defend yourself.
Without an IR35 insurance policy, you will potentially need to find and pay for your own legal representation which can be a big financial burden.
As well as being financially covered, a reputable policy provider will also provide access to experienced legal experts who specialise in defending these claims, making sure you’re in the best hands.