As a contractor in the UK, or as someone who is considering contracting, it’s essential that you understand what IR35 is. IR35 is a set of rules around employment legislation that determine when a contractor should be treated as self-employed or employed for tax purposes.
It was introduced in 2000 by HM Revenue & Customs (HMRC) to identify contractors who were not conducting themselves as contractors, but rather as employees. In other words, the taxman felt there were many contractors who worked for the same company and in the same role for more than a short-term period. As a contractor, you would generally fulfil a role for a short or set amount of time (usually less than 12 months).
By designating themselves as contractors, they were able to receive significant tax relief unavailable to full time employees. This was seen as being unjust and thus IR35 came to pass.
So, what does all this mean for you as a contractor in the UK?
IR35 impacts the amount of tax you’ll pay, should you be deemed to be operating "inside" IR35. This affects your take-home pay. Contractors who fall “outside” of IR35 are viewed as proper businesses and will be taxed at Corporation Tax levels. This tax is currently set at 19% for the 2017/18 financial year, and the government is aiming to reduce it further to just 17% by 2020.
Contractors that fall “inside” IR35 are viewed as employees (even though they have a limited company through which they work and get paid). This means that you will be required to pay standard employee tax rates. These rates are significantly higher and can reach up to and above 40%.
Determining your IR35 status
It’s important to understand that IR35 applies on a client-by-client and project-by-project basis. So, it is possible that you might have to pay tax under IR35 for working with some clients and not others. You could even work for the same client on two different jobs and, depending on each job, you may be inside or outside IR35 on one or the other.
When determining your IR35 status, HMRC looks at the terms of your contract as well as how long you have been contracting with the same company. They also look at:
- How long you have been working in your current role
- Whether you move divisions or are in the same division
- Whether you have to supply your own equipment for the job
A note on so-called IR35 calculators
There are several websites that will tell you that they can work out whether you will be inside or outside IR35. These online tests, even the one that HMRC hosts, are to be viewed with circumspection. You need to speak to a professional legal advisor directly about your situation. Each individual contractor has a different set of circumstances and only a thorough investigation will be able to determine if you will or won’t be subject to IR35 rules.
What steps can you take to stay within HMRC’s guidelines
When it comes to drawing up your contract with a client, there are some simple things you should make sure are included before signing. Remember, it is your responsibility to ensure that you adhere to the IR35 tax rules.
Here are some guidelines for what you should include in your contract:
- The contract is to be made out to the limited company not to an individual
- The contract is signed by the director or authorised representative of the company
- There is an end date and/or information explaining the termination clauses
- The contract has a substitution clause which allows the company to send any approved consultant representing it to do the work; this is very important with regard to IR35
- The limited company is solely responsible for paying all the correct taxes
- There are clauses relating to liability and the responsibility for the company to provide the necessary insurances
- There are clauses relating to the possibility of the company having to provide its own equipment
What if IR35 applies to a project?
First off, don’t panic. All you need to do is make sure that you pay your tax and National Insurance contributions correctly and you will be fine. Here is where you’d want to use the service of a specialised accountant who can ensure that you are paying enough tax and remain compliant.
The penalties for breaking HMRC’s rules
You can be charged interest and penalties on any income tax or National Insurance contributions owed if your contract falls within IR35 and you didn’t pay the correct amount of tax. The penalties can be more severe if the rules were deliberately ignored.
If you’ve defaulted on your taxes for previous contracts, it’s important that you inform HMRC immediately. If you make a voluntary disclosure, it may reduce any penalties you have to pay.
It’s a minefield out there, don’t do it alone
We’ve been helping contractors get started in the UK for over 20 years. Our experienced accounting team can provide you with specialist, personalised, end-to-end accounting and tax advice.
If you are unsure whether or not your contract falls outside the scope of IR35, it’s best to have it reviewed by a lawyer who can advise you accordingly. If this is something which you need assistance with, we can point you in the right direction and ensure you get the help you need.
If you need help with any information regarding contracting, or contractors’ tax issues, get in touch with us via email or take a look at our contractor accounting services.
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