Businesses that engage contractors who provide their services through personal service companies should be aware of new rules coming into force in April 2020. By this legislation, HMRC are aiming to root out tax avoidance by those trading as limited personal service companies (PSC), when in reality they are in what should be recognised as an employer/employee relationship and should be paying tax accordingly.
The impact of the new regulations is likely to be additional responsibilities, liabilities and costs for end user clients and potentially unpalatable changes and disruption for contractors.
To whom will it apply?
The new legislation will apply to UK companies who engage contractors through PSC and who meet two or more of the following tests:-
- have an annual turnover exceeding £10.2 million;
- a balance sheet total of more than £5.1 million; and
- an average of more than 50 employees over the year.
The effect of the proposed new legislation is to shift responsibility for assessing and paying tax from the contractor's PSC to the end user client. For payments made after 6 April 2020, it will be the responsibility of the end user client to assess whether the contractor they have engaged is properly inside or outside the scope of IR35.
If the contractor should be treated as inside IR35, the end client will have the obligation to pay the contractor's PSC through its payroll after deduction of tax and national insurance contributions. In addition, the end user client will need to pay the 13.8% employer's national insurance contribution liability as well as the apprenticeship levy on fees.
If the end user client wrongly assesses the contractor and doesn't put them on the payroll so that they are treated as being outside IR35, and HMRC subsequently disagree with this assessment, then the end client could be liable for the tax and national insurance contributions due (including employer's national insurance contributions) together with interest and penalties for the period of the assignment in question. This can be a potentially very onerous liability for end user clients of highly paid contractors who have carried out lengthy assignments.
The effect of this change in the public sector
HMRC made a similar change to IR35 in respect of public sector contractors in 2017 and it has caused huge disruption: increased costs, loss of key personnel and talent and in some cases the inability for public sector organisations to recruit the necessary staff.
When the new IR35 legislation was rolled out in the public sector, due to the risk averse nature of such organisations, the complexity of the new legislation and the difficulty of applying the evolving case law based test as to when IR35 applies, many public sector organisations defaulted to a blanket ban approach and simply required all contractors engaged through PSC's to go on the payroll. This had the unfortunate result that many of the contractors refused to work on the new basis and departed. This has meant that some public services e.g. NHS, have lost key talent and now find themselves under-resourced as they are unable to recruit alternatives and they are therefore not able to deliver various projects. The overall effect has been to increase the costs of getting work done.
What should affected companies do now?
To avoid a repeat of the public sector experience, it is essential that private sector employers who will be affected by this new legislation start planning early to assess how the legislation will affect them. This planning should include:
- an assessment of how many of their contractors provide their services through a personal service company;
- gathering the relevant details of such contractors, their contractual arrangements and the roles they actually and currently carry out in the client's organisation;
- what, if anything, can be done either to change working practices or organisational structures so that the roles carried out by the relevant contractors are more clearly either within IR35 or outside IR35;
- how they will make an assessment of the contractor's true status, and provide a "status determination statement" using "reasonable care";
- planning communication with contactors;
- considering how, if necessary, additional costs will be absorbed and contractual arrangements changed.
The above illustrates the importance of early factual assessment of the situation with each contractor and communication with the relevant contractor(s) to find the best way forward whilst complying with the new legal obligations.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.