The IR35 is a tax legislation which is aimed to act against tax avoidance by both employees, and the companies which hire them. This prevents companies hiring workers through intermediaries such as limited companies or freelancers/contractors that would be regular employees if the intermediary was not there. This legislation makes it so national insurance contributions and taxes are paid correctly by both the employee (freelancer) and employer (client).
What are the IR35 Freelance Tax Changes?
On the 6th of April 2021, certain changes came into effect, impacting the legislation and the responsibilities that employers and workers have. Under the new rules, in the private sector, the responsibility for determining employment status now lies with the client (the employer). This was already the rule for businesses and workers in the public sector.
How Do the IR35 Tax Changes Affect Freelancers?
If a freelancer or self employed worker provides services to either a large-sized private sector or a public sector client, they are responsible for the following:
- Freelancers should request employment status confirmation from their clients as well as supported reasoning behind the grounds of their employment status.
- Freelancers can dispute the employment status that a client provides them with if they disagree and have the grounds to disagree.
If the freelancer or worker doesn’t get employment status confirmation from an employer (client) or alternatively provides services to small clients in the private sector, rules can vary. As rules are not changing for small-sized private businesses, freelancers can request confirmation of their clients business size and they will have up to 45 days to respond with confirmation. When confirmed, it is the freelancers responsibility to determine worker status to see if the off-payroll working rules apply.
The Business is deemed as small sized if it adheres to the following:
- An annual turnover of £10.2 million or less
- A balance sheet total less than £5.1 million
- Less than 50 employees
If a freelancer provides services to a small private or voluntary sector organisation and the off-payroll working rules apply, the freelancer will be responsible for deducting Income Tax and National Insurance contributions from their fees and paying them to HMRC.
How Do the IR35 Tax Changes Affect Employers?
When working with freelancers, employers and businesses must now adhere to the new IR35 tax legislations, identifying which contractors and freelancers should be placed on the payroll. The HMRC recommends that each contractor’s case should be examined individually in order to reduce unfair tax payments as certain individuals’ circumstances regarding the IR35 may vary.
Employers are responsible for deducting Income Tax and employee National Insurance contributions and paying them to HMRC, as well as paying employer National Insurance contributions.
Responsibility is applicable if:
- a public authority, medium-sized or large-sized client makes the status determination.
- the off-payroll working rules apply.
What are the Consequences for Not Abiding by the New IR35 Tax Changes?
IR35 penalties will be implemented when a contractor under-declares their tax liability by not calculating their appropriate payments of tax and NICs in the IR35. These penalties will depend on whether the contractor introduced the inaccuracy by being careless, by deliberately not calculating the payment when they know they are inside IR35, or by deliberately under-declaring and concealing facts.
- The penalty is 30% of unpaid tax if HMRC considers the contractor to have been careless.
- 70% of unpaid tax if the contractor knew they were inside IR35.
- 100% of unpaid tax if the contractor knew they were inside IR35, deliberately did not calculate the deemed payment and attempted to conceal the underpayment.
What Do the Experts Think?
To find out more about the new IR35 rules, we asked RJF founder and small business accountancy specialist Rob Jones for his opinion on these changes:
“The changes to off-payroll working (IR35) rules for the private sector were implemented on 6th April 2021. These new rules mean that responsibility for determining your IR35 status, and which entity pays Income Tax and National Insurance Contributions (NICs) to HMRC, is now, largely, the same for both the private and public sectors.
“IR35 is causing absolute mayhem already”, says Rob. “It’s seen by many as a completely unfair piece of legislation, destroying successful ltd companies that have been operating for many years. Overnight people lost over a third of the income that they have built their lifestyle, mortgages and projected finances upon.
“Those contractors who work away from home now have an average of £250-300 expenses a week to find before they earn a penny. On top of that rates are reduced by 25% to cover employers national insurance and holiday pay. Then add in extra income tax and NI and the average contractor is down about 40%.
“The big corporations have not helped themselves either by taking a blanket approach to IR35 and ignoring genuine appeals and cases due to the risk of penalties.”
How to Make Sure You’re Not Affected By The IR35 Rules
Rob has also given us his top 6 tips for how you can ensure that your business falls outside the IR35 ruling:
1. Review the personal services contract
There must be a contract in place between the contractor and end client. Develop the self-employed aspects of the contract by not including a notice period, a set working address for the project, a job title, set working hours or overtime rates.
The contract should include a detailed substitution clause. This should outline how the contractor is responsible for sourcing, hiring, and paying a suitably qualified substitute who can provide the same service if required.
2. Change your payment schedule
Rather than being paid monthly as an employee would be, switch to being paid upon completing the project or upon completing project milestones. A penalty clause can be included in the contract for failing to meet a deadline. This can help distinguish a contractor from an employee.
3. Control how the work is delivered:
A contractor manages their own time and controls how and where the services are delivered. This should be reflected in the management of the project and in the contract.
4. Alternate clients
Upon completion of a project, it is advisable to alternate clients, rather than rolling into another project with the same client. This can avoid a ‘mutuality of obligation’ from arising.
5. Set up a website
To strengthen their position as a contractor, the PSC should have its own website. Having a strong online presence can help existing and prospective clients perceive the PSC as a legitimate business. A professional website gives people an easy way to contact you, allows you to showcase a portfolio of work, and helps to build client trust. You can have one built for relatively low cost.
6. Other sound business practices
In addition to building a website, a contractor should engage in other sound business practices that reinforce their contractor status. This includes having a branded business (logo, letterhead etc.), providing their own equipment, having professional indemnity insurance, and if possible, working for multiple clients at the same time.
IR35 Tax Changes Summary
To conclude, the changes must be understood by employers and contractors alike and understand their responsibilities moving forward. If not understood, payments could be duplicated or alternatively not paid in full, resulting in fines and penalties.
We hope this article has aided your understanding in the IR35 tax legislations which were imposed on the 6th April 2021.