If you are considering operating as a freelancer or contractor through your limited liability business, you must rapidly grasp the IR35 laws.
The key issue hinges on a section of legislation known as IR35. HMRC believes that IR35 “protects hundreds of millions in tax income.”
However, the contracting population of the United Kingdom believes that IR35 is a weight around their necks. It imposing disproportionately high compliance costs on one-person firms.
What are the IR35 rules that a new contractor must be aware of?
Why Was IR35 Established?
Since the late 1980s, an increasing number of IT experts have opted to work as “contractors” through their limited liability firms. Not as salaried employees.
As the number of new company directors increased, HMRC thought many of them were “disguised employees”. HMRC’s view is a large number of contractors were mot genuine small business owners.
Many would work 9 to 5 for an employer one day. Then return the following day as limited company contractors to accomplish the same work.
If you work through your own business as opposed to remaining in regular employment, you will pay less tax overall. This is because National Insurance Contributions (NICs) are not payable on dividends.
The disparity is narrower than it was in the late 1990s due to the recent dividend tax increase. However, it is still advantageous (from a tax perspective) to be a contractor instead of a typical employee.
In reaction to the explosive rise of so-called “personal services firms,” the government enacted the Intermediaries Legislation (IR35) on April 6, 2000.
These regulations were established to fight what it perceived to be massive tax and NIC avoidance by disguised employees. Chapter 8 of ITEPA 2003 contains the relevant provisions.
The term ‘IR35’ derives from the number of the press release in which HMRC’s intended crackdown was initially described.
What is IR35?
The United Kingdom passed the IR35 legislation in April of 2000 to ensure that freelancers and contractors paid the appropriate income tax and National Insurance (NICs).
Specifically, the IR35 laws apply to people who functionally act as employees but have registered as a limited corporation to perform a service. This may convey that the individual is self-employed and eligible to pay less tax.
In What Way Does IR35 Actually Work?
In 2000, the Intermediaries Legislation (IR35) was passed into law.
This tax law aims to establish if a person is legally self-employed – a true freelancer – or a “disguised employee.”
This is significant to HMRC because salaried workers pay a fixed income tax and National Insurance contributions. In contrast, a director of a limited liability company has greater discretion in taking earnings from their company, typically because they pay less tax.
If the intermediary (the limited liability corporation) did not exist, would an IT worker be considered a typical “employee”?
What Are The New “Off Payroll” Regulations?
HM Treasury has drafted new Off-Payroll Workmg regulations after concludmg that the original IR35 laws did not adequately address the issue of disguised employment.
Even though this is independent law, the original IR35 and this new restriction are called IR35.
These new regulations were implemented throughout the public sector in April 2017 and will apply to nearly all private sector contracts beginning in April 2021.
Before the creation of these new guidelines, IR.35 status was determined on a self-certification basis by contractors. Now, end-clients must determine the employment status of their independent contractors.
IR35 was already a burdensome administrative requirement for professional contractors, and these additional laws have temporarily depressed the market. Concerned about their potential blame should something go wrong, many end-clients decide to require contractors to join umbrella corporations.
This is not surprising; given time, the limited company model will undoubtedly return, especially at the ‘professional’ end of the market.
What Happens If IR35 Catches You?
If HMRC decides that your contract falls under IR35, all of the income from that contract will be subject to regular “employee” taxes, such as income tax and contributions to national insurance from both the employee and the employer.
As a limited company contractor who is not subject to IR35, you will likely get a little salary and dividends from your company. This is more tax-efficient than employee employment, primarily because employers’ national insurance contributions (NICs) are not payable on dividends.
This tax disparity has decreased in recent years due in part to the 2016 dividend tax increase. For many business owners, the tiny tax disparity is justifiable, as it accounts for all the business-related expenses contractors incur that employees take for granted.
What Are The Important IR35 Factors?
Three important variables are taken into account to evaluate whether a contract is subject to IR35 more often than any other.
• Mutuality of Responsibility
• Personal Service
• Control
If the stated terms of a contract work pass these requirements, IR35 is unlikely to apply. At their most fundamental level, these tests check several facets of your relationship with your client.
1. Mutuality of Responsibility
Mutuality of Obligation examines whether you are free to leave an assignment or obligated to remain.
2. Personal Service
Personal Service attempts to identify if you must do the work personally (as an employee would have to).
3. Control
Control evaluates whether you can use your professional discretion to determine how a job should be accomplished (as an independent contractor would be anticipated to do) or whether your client exercises employer-like control over your daily work.
Be Cautious
IR35 has become such a major concern for freelancers and independent contractors that a cottage industry has sprung up to provide contract reviews, insurance, and expert guidance to people concerned about their status. Considering how intricate and frequently changing the rules are, seeing a specialist is well worth your time and money.
Please contact Southside Accountants in Wimbledon for help and support around IR35.
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