Many firms use consultants or contractors in their businesses on a routine basis, bringing in expertise and to help projects move at a faster pace.
There are advantages for both your company and the contractor in having this type of relationship. However, just because someone is labelled an independent contractor does not mean necessarily that they are.
It is important you consider the reality of the relationship and look at the overall picture to assess the true nature of the engagement – in relation to both employment legislation and the new off payroll rules and IR35 status.
What are the off payroll rules?
The existing off payroll rules, commonly known as IR35, were introduced to address the avoidance of payroll tax where a business pays a worker via the worker's personal service company (PSC) such as a limited company, rather than as an employee.
Historically, the responsibility for the IR35 rules and deciding the status of the contractor fell on the PSC and not the client business.
For the public sector, the rules changed back in 2017 when the government introduced new legislation to reform IR35, shifting the liability and risk for determining IR35 status to the public sector client.
The 2017 rules require public sector bodies who are the end client of the contractor’s services to decide if any of their contractors, who provided services through a PSC, fall under the off payroll rules. If so, the public body has to advise all relevant parties and make payroll deductions before the payment is made to the PSC.
Similar reform around IR35 compliance was due to be introduced for private sector companies in April 2020. However, as the Covid-19 pandemic impacted nearly every business and worker around the country, the IR35 changes were delayed by 12 months.
In the March 2021 budget, it was announced that with effect from 6 April 2021, the new off payroll rules will be introduced and will apply to many private sector businesses.
Are you impacted by IR35?
The changes to IR35 apply to large & medium sized private companies that:
- Engage contractors who provide their services through their PSC, and
- Are the end client for the provision of services by that contractor.
IR35 for Large & Medium Businesses
The changes to IR35 affect medium or large entities, which means that any two of the following apply:
- The average number of employees in your business is more than 50;
- Your annual turnover is more than £10.2m;
- Your balance sheet shows more than £5.1m in assets.
Similarly, a charity or other unincorporated entity is impacted by new IR35 rules, if its annual turnover (excluding donations and voluntary income) exceeds £10.2m.
IR35 for Small Businesses
If your organisation does not meet the criteria above, it is classed as a small business and the responsibility for IR35 remains with the PSC; so there is no change.
What do you have to do?
The new rules around IR35 (off payroll) come into force for services provided from 6 April 2021.
If your organisation meets the criteria to implement the new rules, engages contractors through a PSC and is the end client of the services, you must take the following action:
- Review each engagement with a contractor to determine whether the IR35 rules apply
- Using ‘reasonable care’, prepare a Status Determination Statement (SDS) for each contractor
- Issue the SDS to your contractor and their PSC
- If contracting the contractor through an agency, the SDS should be issued to the agency and other parties in the supply chain for the contractor
- Establish a disagreement process for a contractor to challenge an issued SDS.
What is a Status Determination Statement (SDS)?
An SDS sets out a contractor’s deemed status for the purposes of IR35 / the off payroll rules and the reasons for that determination.
It is important to take reasonable care when preparing the SDS. If your organisation fails to do so, the contractor’s tax and National Insurance contributions become the responsibility of your organisation.
Deciding whether the off-payroll rules apply to an engagement may be difficult as it depends on a wide range of factors. This makes it confusing to many. You would be well advised to prepare for new rules with the guidance of qualified legal advice.
SDS: Inside IR35 / Off Payroll rules
If the decision in the SDS is that the off payroll rules apply, you should be prepared to deal with a disagreement from the contractor. You have 45 days to respond to any challenge to an SDS. You should consider the reasons for the disagreement and decide whether you consider your determination is right or not, providing reasons for this.
If the determination remains that the worker is that the off payroll rules apply and your organisation engages directly with the PSC, the contractor must be enrolled in your business payroll system, with appropriate tax and NICs deducted before the net payment is made to the contractor’s PSC.
Where an agency or another organisation is in the chain of engagement with the PSC, your organisation must still issue a SDS but it is the last organisation in the chain before the PSC that has to deduct appropriate tax and NICs before the payment is made to the PSC.
SDS: Outside IR35 / Off Payroll rules
If the decision in the SDS is that the off payroll rules do not apply to the contractor, you (or the last organisation in the chain before the PSC) do not have to make deductions for tax and NICs and can continue to make gross payments to the PSC.
However you should remember that if the working practices of the engagement change or you negotiate a new contract with the PSC, you should re-check the rules to see if this changes the SDS.
New IR35 legislation is coming into force. You should take action now before the rules come into place:
- Decide whether the new rules apply to your business – consider whether your organisation is a large or medium sized business.
- Carry out a preliminary review of all contractors expected to be providing services after 6 April 2021. Consider whether they use a PSC or other intermediary and whether your organisation is the end user of the services.
- Establish the policy and process for reviewing contracts under the IR35 rules and issue an SDS to contractors, agencies and others in the supply chain.
- Prepare your payroll system to implement any new off-payroll / IR35 changes.