The IR35 legislation unquestionably complicates the lives of independent workers and it has impacted businesses that regularly use contractors.
What is IR35?
The IR35 legislation, also known as off-payroll working, provides a set of guidelines and criteria that HMRC can use to evaluate a contractor's work arrangement. The purpose of this legislation is to determine whether a contractor is working like an employee or like a company.
What does inside and outside IR35 mean?
Contracts that are categorised as inside IR35 are considered to have similar working conditions and responsibilities as those of a regular employee. As a result, such contracts are subject to the same Income Tax and National Insurance payments as employees.
On the other hand, contracts that are categorised as outside IR35 are considered to be operating as a company. Therefore, the contractor is taxed as a company and is not subject to the same tax obligations as an employee.
Inside vs outside IR35
A contractor caught inside IR35 is meant to pay the same tax an employee would but enjoys no benefits an employee gets. It is therefore, no surprise contractors spend a considerable effort hunting for roles outside IR35 which, however, means they have to ensure their status meets the criteria of staying firmly outside the legislation.
Inside IR35 and outside IR35 are two critical classifications that determine the tax status of contractors in the United Kingdom:
- Inside IR35: When you're classified as working "inside IR35," it means that your work arrangement is deemed to be like that of an employee for tax purposes. You'll pay income tax and National Insurance Contributions (NICs) as if you were an employee. This often occurs when your client determines that you have employment-like characteristics.
- Outside IR35: Conversely, "outside IR35" status indicates that your working arrangement is more like that of a genuine contractor or self-employed individual. You'll have more tax advantages and typically won't be subject to the same level of income tax and NICs as an employee.
The distinction between inside and outside IR35 is crucial, as it affects your tax liabilities and financial planning. It's determined by several factors, including your contract terms, working practices, and control over your work. Consulting with a tax advisor or specialist can help you navigate these distinctions effectively.
Inside IR35 meaning
If a job contract or working arrangement are described as inside IR35, it means that the job or your tax status falls within the scope of the IR35 legislation.
The IR35 legislation is designed to prevent what HMRC considers "disguised employment." It aims to ensure that contractors and freelancers who provide their services via a limited company but work in a manner similar to traditional employees pay income tax and National Insurance contributions in a manner consistent with regular employees.
When your working arrangements are considered inside IR35, it generally means the following:
The way you deliver your services are controlled by the client. For example you have been set certain working hours, you must be at a specific location or you must seek permission to take leave. Also you aren't able to send somebody else instead of you to complete the work. In other words at a glance there is no difference between you and other full time employee.
Outside IR35 meaning
To be considered outside IR35, your working arrangement should reflect a genuine self-employed status. That means demonstrating that you, the freelancer or contractor, are in control of how and when you deliver your services.
The contract between you and the client is important. Its conditions need to show that the relationship between you and the client is on a business-to-business basis rather than an employment-like one.
However, how you work in reality also matters. Even if your contract aligns with the outside IR35 guidelines, you must also be able to demonstrate that your work in that manner.
Employee vs contractor study
A recent case study review by Kennedys isn’t, strictly speaking, about uncovering the difference between inside and outside IR35 but it shows what it takes to be determined as a true independent contractor.
In the case of Mr Franco, a Deliveroo driver, the claim was to demonstrate that he was a de facto employee who was unfairly dismissed by his employer. Mr Franco won his case at first but lost on appeal.
In reality Deliveroo had some control over Mr Franco’s performance. Mr Franco dressed and acted as part of Deliveroo, and provided personal service on behalf of the business.
Interestingly, despite wearing a uniform, acting on the business’s behalf and adhering to certain quality standards, Mr Franco contractual relationship with Deliveroo bore more weight in the final decision.
The key arguments in overturning the original decision were:
- Mr Franco conducted his own business in "arranging" to provide the delivery services to Deliveroo;
- Mr Franco was not required to personally perform the delivery services, but could arrange for another person to perform the delivery services, without prior approval from Deliveroo, subject to the person not previously having their supplier agreement terminated by Deliveroo;
- Deliveroo did not have the right to control Mr Franco regarding the performance of his delivery services under the 2019 Agreement;
- Mr Franco was able to work for Deliveroo’s competitors simultaneously, and he had an unfettered ability to work for Deliveroo’s competitors;
- Mr Franco supplied the equipment to perform the delivery services, and was required to supply his own delivery vehicle and mobile phone; and
- The mode and manner of remuneration, fees and invoicing, indicated a contractor relationship.
Where Mr Franco was anxious to demonstrate the opposite, his case inadvertently offers a valuable insight in the difference between inside and outside IR35.
A well drafted terms of agreement in writing between a client and contractor, incorporating core rights and obligations can be key in clearly identifying the intended relationship.
How the two parties operate in practice may no longer be as relevant.
Stating a role is outside IR35 isn’t enough. A well drafted agreement supporting the intended relationship must be in place.
For full details of Mr Franco case, please follow this link.
Protecting yourself against IR35 enquiry
Even if you have done everything right, it may not stop HMRC from looking into your affairs. An IR35 enquiry can cost in extra accountancy fees, your time and cause a fair degree of stress.
Sometimes certain type of business insurance can help. Suited self employed professional indemnity insurance automatically includes commercial legal expenses insurance which would cover this type of situation. Specifically if your chances of rebuffing such an enquiry are strong.