Off-payroll working in the private sector - reforms to IR35 see a shift of responsibility

Organisations which hire contractors via PSCs will need to prepare in good time before the April 2020 implementation date

11 March 2020

**Update: In response to the COVID-19 pandemic, the government has delayed the implementation of the reforms until 6 April 2021.

Organisations which engage contractors, either directly or through an agency, who work via a personal services company (PSC), or contractors working on that basis, should be aware that significant reforms to the off payroll working rules - more commonly known as IR35 - will be introduced on 6 April 2020. Similar changes were made to off payroll working in the public sector in April 2017 and these changes are intended to bring the private sector into alignment.

What’s changing?

In short, the new rules will shift the responsibility for determining how the contractor’s fee should be taxed from the contractor and their PSC to the end-user (‘client’). In the event that the rules apply, the client or, if intermediary agencies are involved, the agency as fee-payer will then be responsible for deducting tax and other payments at source. Clients which fall within the definition of ‘small business’ are exempt from the changes.

Why the change?

One of the intentions behind IR35 was to ensure that individuals who provided their services through a PSC, but who otherwise are difficult to distinguish from directly engaged employees, would have to pay the income tax and national insurance contributions (NICs) which would have been payable had they been engaged, as an employee, directly by their client. Currently, in the private sector, responsibility for determining status and for accounting for income tax and NICs lies with the PSC. The government has long been concerned that there is widespread non-compliance with IR35 and the consequent shift in responsibility from PSC to client is designed to address this.

What do the changes mean for contractors?

Contractors in a labour supply chain, operating through a PSC (or another form of relevant intermediary), will receive a status determination from the client together with reasons for the determination at the start of the contract. If the client determined that the contractor should be taxed as if they were employed, the client (or intermediary agency if involved) would deduct income tax and employee NICs from the fee payable.

What do the changes mean for clients?

Clients will be obliged to:

  • determine the contractor’s status for tax in relation to an engagement;
  • notify the contractor of the status determination and the reasons for that determination;
  • if they are the fee-payer, deduct income tax and employee NICs from the payment and account for them to HMRC in the event that IR35 applies, and
  • account for employers' NICs.

Note: where the client is using a third party (usually an employment agency) to provide labour, the client must also notify the agency of the status determination and their reasons for reaching that determination. If income tax and NICs are to be deducted, it will usually be the agency (or the fee-payer in the event that there is more than one agency in the supply chain) which will be liable to make the deductions rather than the client. However, ultimate liability for accounting for tax and NICs on the fee paid will lie with the client if HMRC cannot recover from the fee-payer or contracting agency.

If the contractor in question is subject to PAYE and NICs as an employee of an agency or umbrella company, the arrangement will be outside the new rules.

Why are these changes significant?

Additional costs

The changes may result in additional costs in the form of employers' NICs. In addition, fee payments taxed under the new rules may count when calculating the Apprenticeship Levy. Clients may well see an increase in fees to make up for any shortfalls in contractors’ net income as a result.

Increased administrative and compliance burden

The changes will, inevitably, create a significant administrative and compliance burden for clients which is likely to be particularly challenging for those who rely on large numbers of contractors working via PSCs. For example, clients will not only need to make status determinations at the start of a contract, but will also need to monitor contracts on an ongoing basis to identify changes in circumstance which may alter the status determination.

Equally the requirement to notify the contractor of the determination directly is also likely to be problematic as many clients who use intermediary agencies will not know the identity of the contractor or how to contact them before they arrive on site. If the client is the fee payer they may also not have the information required to process the payroll, for example, NI number, date of birth, address etc.

The client will be required to have a status disagreement process in place to deal with disputes from contractors and fee-payers and will need to respond within 45 days.

Pre-implementation review of the regulations

Following a promise to do so in the run-up to the general election in December 2019, the Government tasked HMRC to carry out a review of the proposed reforms.  On 27 February 2020, the Government published its response following this review.  As expected, the review focused on how, rather than if, the reforms would be implemented.  The key outcomes of the Government response include:

  • that the new rules will come into force on 6 April 2020 and will only apply to services provided on or after that date.  Services that were provided before 6 April but are invoiced after that date will not be caught;
  • the Government will legislate to oblige clients to respond to agencies or workers request information about their size, so that workers will be able to establish if the client is exempt from the changes as a ‘small business’;
  • HMRC will take a ‘light touch’ approach to enforcement in the first year of the new rules and will not penalise clients for inaccuracies (unless there is evidence which indicates there has been deliberate avoidance of the rules);
  • HMRC will not use any information obtained via the implementation of the new rules to open any historical enquiries (unless they have reason to suspect fraud or criminal behaviour);
  • HMRC will amend legislation to exclude wholly overseas organisations with no UK presence from the off-payroll working rules;
  • HMRC will also be running a targeted communications campaign to improve awareness of the rules and address misinformation. HMRC will provide workshops and webinars to those affected by the changes.

How should clients who use self-employed contractors prepare?

  • identify individuals who are currently engaged via a PSC either directly or via an agency;
  • review any such existing contracts to identify which arrangements are likely to be caught – HMRC has revised its online tool known as CEST, and published accompanying guidance. When a client uses CEST, HMRC will stand by the outcome provided the answers are in accordance with the guidelines and not contrived to achieve a particular result;
  • calculate the additional cost of employers' NICs (and the effect on the Apprenticeship Levy if applicable);
  • review the engagement of individuals via PSCs and determine an appropriate strategy moving forwards;
  • be aware of the proposed practical issues around notification of status determinations, provision of reasons and and be alert to the requirement to adhere to the "status disagreement process".
  • given the low cost benefit of using PSCs, companies may consider engaging workers directly instead. However, workers engaged directly would benefit from additional employment benefits, such as national minimum wage, paid annual leave and protection from unlawful deductions from wages. If the individual was to be viewed as an employee this would bring with it significant additional rights and protections.

What should contractors do to prepare?

  • be aware of the changes and understand the basis on which you are currently contracting, the likely status determination that will be made by the client in relation to the assignment and the consequent tax obligations where fees are to be paid after April 2020.
  • consider whether it might be in your interests to seek to change your working arrangements with the client. For example many clients are reviewing their resourcing requirements with a view to offering opportunities for contractors to be taken on as workers, or in some instances, permanent employees. Additional employment rights will attach if so but fees may decrease.

How Burges Salmon can help

Our readiness review service offers:

  • an audit of your existing intermediary arrangements
  • a review and risk analysis
  • advice to help identify the right resourcing strategy for your organisation.

Standalone advice on the issues raised in this briefing is also available.

Disclaimer

This briefing gives general information only and is not intended to be an exhaustive statement of the law. Although we have taken care over the information, you should not rely on it as legal advice. We do not accept any liability to anyone who does rely on its content.

5 tips to help prepare for IR35 changes in the private sector

Key contact

Annelise Tracy-Phillips

Annelise Tracy Phillips Senior Associate

  • Employment
  • Equality and Diversity
  • Restructuring and Redundancy

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