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Legal guide:

IR35

What are the upcoming changes to IR35? From 6 April 2021, medium-large end-user clients that contract with intermediaries/personal service companies (PSCs) will have to operate payroll, make deductions for tax and pay National Insurance contributions for the individual in the same way as public sector companies are required to do under the current off-payroll working rules. There is no change for small end-user clients; the intermediary/ PSC will make the determination and if necessary, payments. If the end-user client is not a medium-large entity then the new rules will not apply. It’s important to note that it is the size of the end-user client which is relevant, not the size of any intermediary. The end-user client refers to the entity which actually receives the services of the individual.

What is IR35?

IR35 is the informal name for the off-payroll working rules contained in the Income Tax (Earnings and Pensions) Act 2003 (also known as ITEPA). The rules seek to ensure that individuals, who would have been an employee if they were providing their services directly to an endclient, are subject to the same tax and National Insurance treatment as employees. The rules may apply if an individual has a PSC through which they contract their services for an end-user client. If an individual is supplying their services directly and not through a company then the IR35 rules are not relevant, although the rules governing whether someone is genuinely self-employed would still apply.

What is the relevant “intermediary/PSC”?

How is a “medium-large” company defined? A company is always “small” for its first financial year.

The intermediary/PSC will usually be a company owned by the individual that provides services to the end-user client.

Where the intermediary/PSC is a private company, the individual must: • Have a material interest in the intermediary/PSC (more than 5% of the shares and 5% of the votes) or; • Receive or be entitled to receive a benefit other than employment income.

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A company is “small” in a tax year in which it satisfies two or more of the following requirements: a) Its annual turnover is not more than £10.2 million; b) Its balance sheet total is not more than £5.1 million; and/or c) It has not more than 50 employees. End-user clients which are not “small” (i.e., those which fail to meet two or more of these criteria) will be deemed medium-large and be covered by the updated legislation. Public companies are excluded from the ‘small companies’ regime and so will always operate within the IR35 rules.

What about a small UK subsidiary of a large international group company? A company does not qualify as “small” if the company is a member of a group whose parent company (or other similar undertaking if the parent is not a company) does not satisfy two or more of the criteria listed (a)-(c) above. This is the case even where the subsidiaries own activities within the UK otherwise fall within the criteria of “small”. Therefore, a small end-user client which is a subsidiary of a medium-large company will count as being medium-large itself for the purpose of these rules.

If the intermediary/PSC was not involved, would the individual be regarded as an employee of the end-user client for the purposes of income tax? If the answer is ‘yes’; the end-user client may be liable to operate payroll, make deductions for tax, and pay National Insurance contributions in respect of that individual (see “How does IR35 operate where it is applicable: medium-large end-user clients?” on the following page).

How might an end-user client be affected? If an end-user client is a medium-large private company engaging an individual to perform services under arrangements involving an intermediary/PSC, then the end-user client will need to make the following determination:

End-user client

Intermediary/PSC

Individual

How does IR35 operate where it is applicable? In these circumstances a chain is to be identified; the highest in the chain is the enduser client and the lowest is the intermediary/ PSC. Each body higher than the intermediary/ PSC must make a payment directly down the chain. The end-user client is required to give a status determination statement (“SDS”) in respect of the individual. The SDS identifies whether the end-user client concludes that the individual would be an employee of the end-user client but for the intermediary/PSC. If the SDS reaches the conclusion that the individual would be an employee, then the entity treated as paying the intermediary/PSC (being the “Fee Payer”) will be responsible for operating payroll, making deductions for tax and paying National Insurance contributions. If there is a chain of entities involved, then the effect of the SDS is to push responsibility for paying the applicable tax down the chain.

The end-user client must undertake proper consideration and give reasons for this conclusion in order for the determination to be valid. If the end-user client doesn’t make a SDS, they are treated as the Fee Payer. Where there are additional entities in the chain between the end-user client and the intermediary/PSC, the end-user client is treated as being the Fee Payer unless and until they provide a SDS. To pass on this obligation, the end-user client must give an SDS both to the individual and to the entity/entities in the chain below it. In those circumstances, the body directly above the intermediary/PSC in the chain (usually an agency of some description) will be treated as the Fee Payer. Examples of this are below. The entity deemed as the Fee Payer is indicated in white. Where there is more than one agency or entity in the chain, the liability will follow the SDS until it reaches the Fee Payer. If a body does not pass on the SDS, they will be treated as the Fee Payer. The individual is not part of the chain but is included in the diagram for clarity.

The end-user client is required to give a status determination statement (“SDS”) in respect of the individual.

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Examples of this are below. The entity deemed as the Fee Payer is indicated in white.

If a body does not pass on the SDS, they will be treated as the Fee Payer. The individual is not part of the chain but is included in the diagram for clarity.

Where there is more than one agency or entity in the chain, the liability will follow the SDS until it reaches the Fee Payer.

End-user client (provided no SDS)

End-user client (provided SDS)

End-user client (SDS to individual only)

Agency

Agency (in receipt of SDS)

Agency (not in receipt of SDS)

Intermediary/PSC

Individual

Individual (in receipt of SDS)

End-User Client (provided SDS)

Agency 1 (in receipt of SDS, did not pass SDS on)

Agency 1 (in receipt of SDS, passed SDS on)

Agency 2 (not in receipt of SDS)

Agency 2 (in receipt of SDS)

Intermediary/PSC

Individual (in receipt of SDS)

Direct payments to the intermediary/PSC are deemed as being made to the individual as if they were an employee of the entity. Therefore, the entity considered to be the Fee Payer (in white) will be liable to operate payroll, make deductions for tax and pay National Insurance contributions, if concluded to be applicable under the SDS. The starting point for calculating the tax is the full amount of the invoice paid by the indicated party.

There is no 5% allowance as for the regime with small end-user clients in which intermediaries make the determination and payments. Note that the body deemed to be the Fee Payer can never be one in which the individual has a material interest which means that if there is no agency in the chain and the end-user client is engaging a PSC directly, then the end-user client will be the Fee Payer.

End-User Client (whether provided SDS or not)

Intermediary/PSC

Individual

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What about operations outside of the UK? If the end-user client is the entity deemed to be the Fee Payer, the end-user client will always be treated as UK resident (even if it is not) if the worker is UK resident and the services are performed in the UK. Overseas end-user clients may therefore be liable to register for payroll purposes in the UK and make the required deductions.

Is it possible to operate outside of the IR35 regime?

The legislation applies where there is a medium-large intermediary/PSC.

Conversely, if the individual is resident or domiciled outside of the UK;

In order to operate outside of this regime, the end-user client would therefore need to:

• the end-user client is outside of the UK (and not the body deemed to be the Fee Payer); or

• Contract directly with the individual (and not via an intermediary/PSC) – but rules relating to genuine self-employment would still apply; or

• the services provided by the individual are outside of the UK; • tax contributions may not payable.

• Hire the individual as a PAYE employee (and still operate payroll, make deductions for tax and pay National Insurance contributions themselves).

Practical steps For end-user clients who need to prepare for the change in IR35, there are a few actions to be considered:

Identify the contractors and projects that may be affected by this change in the IR35 rules; Make an SDS for the relevant individuals (this needs to be done on a case-by-case basis); Ensure that the SDS is communicated to the individual and any other bodies in the chain; If required, ensure that systems are capable of operating payroll, making deductions for tax and paying National Insurance contributions;

Consider how disputes regarding SDS’s will be managed;

Review contractual arrangements to consider the costs and benefits of making any changes (for example, by making contractors more independent or by bringing them on as employees).

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If you are an individual operating via a PSC or other intermediary, you may want to: • Consider the projects you work on and the clients that engage you – are there any under which you may be considered an employee but for the existence of the PSC? • Communicate with your end-user clients and seek their SDS as soon as possible; • Consider the SDS – does it correctly reflects the reality of the terms on which you work? • If necessary, challenge the SDS with the end-user client; and • Consider if any of your contractual terms need amending in light of the new legislation.

Further questions? If you have additional queries relating to IR35 and the effect on your contracts and company, please don’t hesitate to get in touch.

Guy Wilmot Partner +44 (0)20 8394 6531 Guy.Wilmot @russell-cooke.co.uk

Sapna Desai Associate +44 (0)20 8394 6545 Sapna.Desai @russell-cooke.co.uk

Leah Hayden Associate +44 (0)20 8394 6449 Leah.Hayden @russell-cooke.co.uk

This material does not give a full statement of the law. It is intended for guidance only and is not a substitute for professional advice. No responsibility for loss occasioned as a result of any person acting or refraining from acting can be accepted by Russell-Cooke LLP. © Russell-Cooke LLP.

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