IR35, also known as the Intermediaries Legislation, was introduced in 2000 by HM Revenue and Customs (HMRC). The legislation was designed to address the issue of "disguised employment." This is where individuals who would be employees if they were engaged directly by a client set up a PSC and work through it instead. By doing this, they can pay less tax and National Insurance contributions than they would as employees.
Under IR35, the responsibility for determining whether a contractor falls inside or outside of the legislation rests with the client. If a contractor is found to be inside IR35, they are considered to be an employee for tax purposes, and their income will be subject to income tax and National Insurance contributions. If they are found to be outside IR35, they are treated as a genuine contractor and are responsible for paying their own taxes and National Insurance contributions.
To determine whether a contractor is inside or outside of IR35, HMRC looks at a range of factors, including:
Control: Does the client control the work that the contractor does, or does the contractor have control over their own work?
Substitution: Can the contractor send someone else to do the work if they are unable to do it themselves?
Mutuality of obligation: Is there an obligation on the client to provide work, and an obligation on the contractor to carry out that work?
Other factors: HMRC will also consider other factors, such as whether the contractor provides their own equipment, whether they take financial risks, and whether they have a right to terminate the contract early.
If HMRC determines that a contractor is inside IR35, the client must deduct income tax and National Insurance contributions from the contractor's pay and pay these to HMRC. The contractor will receive a net payment that is subject to tax and National Insurance. They will not be entitled to employment rights such as sick pay, holiday pay, and maternity or paternity pay.
If the contractor is outside IR35, they are responsible for paying their own taxes and National Insurance contributions. They will receive a gross payment from the client and will be entitled to deduct legitimate business expenses from their income.
In 2017, the government announced plans to reform IR35 in the public sector. These changes came into effect in April 2017 and shifted the responsibility for determining whether a contractor falls inside or outside of IR35 from the contractor to the public sector client.
In April 2021, similar changes were introduced in the private sector. This means that from 6 April 2021, medium and large private sector clients are responsible for determining the IR35 status of their contractors. Small private sector clients are exempt from these changes, and the responsibility for determining IR35 status remains with the contractor.
IR35 is an important piece of legislation that affects many contractors and freelancers in the UK. If you are a contractor or freelancer, it's essential to understand your IR35 status and ensure that you are paying the correct taxes and National Insurance contributions. If you're unsure about your status, it's worth seeking professional advice to help you understand your rights and obligations under the law.
