A Contractor’s Guide to IR35 - Part 4
In A Contractor’s Guide to IR35 - Part 4, we’ll help you to understand more about the 2021 IR35 private sector changes and how they'll affect contractors.
IR35 in the private sector
The 2021 IR35 changes in the private sector, and those which took place in the public sector back in 2017, are an amendment to the original legislation.
The way in which IR35 status should be determined does not change, but instead, the decision-making and liability moves up the contractual chain. The contractor’s company (the intermediary) – may still exist, but the emphasis is now from the client’s perspective and the engagement of workers that may be ‘off-payroll’.
What are the 2021 IR35 private sector changes?
The 2021 changes to the off-payroll working rules will affect private sector and third sector end clients with a medium or large business.
Small companies who meet two or more of the below requirements are exempt:
• Turnover of no more than £10.2 million
• Balance sheet total of no more than £5.1 million
• No more than 50 employees
Where an end client does meet two or more of these requirements, it doesn’t need to consider the new legislation. The responsibility of determining IR35 status will remain with the PSC.
The principles of the legislation are the same as the public sector legislation which underwent similar IR35 changes in 2017. All in all, the amendments will bring extra responsibilities for the end client and other parties in the chain, like the fee-payer.
The 2017 public sector IR35 changes
In April 2017, new responsibilities were introduced in the public sector.
Deciding IR35 status became the responsibility of the public sector and the idea of the ‘fee payer’ was introduced.
The fee-payer is the party responsible for paying the PSC and making tax deductions. In cases where a public sector body engages directly with a PSC, they are both the IR35 decision-maker and fee payer.
If on the other hand there are agencies in the labour supply chain, the agency closest to the PSC is the fee payer. This means that even if the public sector body makes an IR35 status decision that is proved to be wrong, as long as they have taken reasonable care, the fee payer would be left with the liability.
As HMRC came to discuss off-payroll in the private sector, it raised some issues with the public sector approach to IR35 that needed to be tackled. These included:
- a lack of transparency in the IR35 decision-making and the way that the decisions were passed on
- no system in place for the contractor to challenge the decision
HMRC have worked to address these issues in the private sector off payroll legislation. When the changes go ahead in April 2021, they will also apply in the public sector.
Perhaps one of the most difficult changes for contractors was the exclusion of the 5% nominal deduction, available to cover the running costs of a PSC. This meant that on an engagement that is inside IR35, the fees charged by the contractor are either tax deducted or the net amount due to the PSC.
If all engagements a contractor takes on in a given tax year are deemed inside, then every penny is accounted for. The PSC makes no profit and no loss. If, however there is no profit against which to deduct expenses, the contractor ends up paying accountancy fees, insurances and other business expenses out of their own pocket.
It soon became apparent that under those circumstances, operating a limited company is not feasible. As a result, many contractors were forced into some type of PAYE, either as a permanent employee, a fixed-term employment contract, an agency employee or working through an umbrella company.
Losing out on the nominal 5% deduction when an engagement is inside, is unfortunately part of the private sector changes which will similarly force many contractors into the same types of PAYE positions.
Banks quickly responded to the changes and in a lot of cases would no longer take on workers through PSCs. Some were even opposed to taking on workers through an umbrella company. How other sectors will respond to the changes remains to be seen.
Producing the Status Determination Statement (SDS)
The end client as the decision-maker must produce an SDS, which is a written determination providing a conclusion on whether IR35 applies to the engagement with the contractor. Reasoning for the conclusion made must also be provided.
The end client is required to take reasonable care in providing the SDS. ‘Blanket decisions’ which were thought to be a feature of decision-making in the public sector, do not constitute reasonable care.
An assessment on groups of roles would also not be considered as reasonable care, except from if the contractual terms and working arrangements can genuinely be demonstrated to be the same. You can access more guidance on this in HMRC’s Employment Status Manual ESM10014.
After the end client has produced the SDS, it must pass it on to the PSC worker and the party directly below the PSC in the contractual chain.
This means that the burden lies with the end client to inform the bottom most and top most parties in the contractual chain, below it, of its decision.
If the end client fails to produce the SDS, the liability then falls to the fee payer (the party responsible for paying the PSC), even if tax has been correctly deducted by the fee payer.
Once it has passed the SDS on to the party below it in the chain, it then losses the potential liability as fee payer.
The client-led disagreement process
If a contractor does not agree with the outcome of an SDS, the end client is required to provide a ‘disagreement’ process, which permits the contractor to raise a dispute.
IR35 legislation does not provide strict steps on how this process should be implemented, although it does state that the end client must respond to the PSC’s disagreement within 45 days.
On responding, the end client must either confirm its existing decision along with its reasoning or issue a new SDS along with its updated reasoning.
As with the original SDS, the updated SDS must be delivered to the PSC and the party directly below the PSC in the contractual chain.
If the end client fails to do this within the 45-day time limit, it takes the position of fee payer for the purposes of the legislation.
What does this mean for contractors?
For contractors engaging with small companies, you will continue to be the decision maker and hold liability. For all other PSCs working with medium and large companies, you will no longer have this responsibility.
Despite this, contractors will still be able to influence decision making. Even if you are caught inside IR35, end clients may be willing to negotiate on day rates in order to retain talent and help compensate for the increase in tax.
We advise that you speak to your end clients, and agencies too if you’re working through one, as soon as you can before the new legislation comes in, to talk over how your engagement will be treated after April 2021.
Think about how you can showcase to your client the value your company’s services have to offer them. If you believe that your engagement is genuinely outside of IR35, think of how you can demonstrate this to them, so that you can carry on working in the same way.
If you are considering a contract review, it’s certainly worth finding out beforehand how your client is going to treat your engagement.
If they decide that they will no longer engage PSCs, then unfortunately a contract review is unlikely to convince them otherwise. If they are on the other hand happy to work with the off-payroll legislation, you have an opportunity to influence the outcome, and to offer your client proof that they have taken reasonable care in arriving at their decision.
Read part 5 of a contractor's guide to IR35 here.
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