Since April 2000, IR35 has been used by HM Revenue & Customs (HMRC) to combat tax avoidance by so-called “disguised employees”. The legislation has often proved controversial, but will see its reach extended from April 2020.
But what exactly is IR35 and who does it affect? And what will happen following the 2020 reforms?
IR35 - a definition
IR35 targets contract workers who use an intermediary such as a limited company to provide services to clients, when, in reality, they would be classed as an employee if the intermediary was not in place. Such workers are referred to by HMRC as “disguised employees”.
Contractors who are found to be “inside IR35”, that is, deemed to be disguised employees, must pay the same income tax and national insurance contributions as if they were employed. However, this can cost as much as a quarter of their net income.
Who is affected by IR35?
If, as a contractor or freelancer working through an intermediary, your responsibilities are the same as a traditional employee, you may be judged to be inside IR35. If you need further clarification, HMRC has developed an online employment status tool for temporary workers unsure of their liability under IR35. However, the tool has proved controversial and many commentators point out that it can produce verdicts that are at odds with tax tribunal decisions.
Changes to the IR35 rules
The legislation saw a significant update in 2017, and further change is afoot in 2020 as the government continues to crack down on perceived tax avoidance through intermediaries.
From April 2017 the responsibility for establishing whether a contractor working in the public sector is inside IR35 transferred from the individual contractor to the end client.
Incorrectly labelling a disguised employee as being outside IR35 can result in hefty fines for the client, increasing the risk attached to hiring contractors. As a result, some public bodies – including HMRC - have since stopped using limited company contractors.
After much speculation, it was announced in the 2018 budget that IR35 would be extended to the private sector from April 2020, with the exception of small organisations.
What to expect from the new rules
HMRC estimates that IR35 should apply to about one third of intermediaries working in the private sector. The trouble is, many fear that private sector companies simply don't have the resources to assess whether IR35 applies on a case-by-case basis. What many will instead do is simply adopt a 'blanket' approach and treat all contractors as falling within the rules.
As a result, the private sector rollout could lead to a loss of earnings for the private sector limited company contractors who suddenly find themselves inside IR35. Further, as we gear up for the reforms to take effect, the spectre of Brexit has prompted some large organisations to relocate to the continent, bringing more people, including contractors into the job market.
However, it is important to remember that contractors will still be sought after, and paid a premium for their services compared to regular employees. The 2020 reforms will probably not sound a death knell for contracting.