A points-based IR35 test goes against the grain

Unless your last contract was at a client outpost in Siberia, you probably won’t have missed updated guidance on how the taxman will decide if personal service companies (PSCs) fall inside IR35, writes Andrew Noble CTA, tax partner with law firm Browne Jacobson LLP.

It may just be coincidence, but the guidance from HM Revenue & Customs follows the recent publicity around use of PSCs by individuals working in the public sector.

A dozen questions

Either way, the new guidance sets out twelve “Business Tests” with questions to help decide if a PSC would be caught by “IR35”, and each test has a score depending on the answer. The aggregate score from all twelve tests can then be used to decide if the PSC is in low, medium or high risk categories.

But the tests are not an exact science. Although they have been set out with scores for passing (or failing) each test, which when aggregated will put you in a risk category, that still fails to give a definite ‘yes’ or ‘no’ as to whether or not a PSC will be caught by IR35 in HMRC’s view.

In their own words, HMRC state that:  "The business entity tests and the risk bands will help you work out the risk that we will check whether IR35 applies to you. But they will not tell you for sure whether IR35 applies to you...Every case depends on its own facts."

No ‘safe harbour’ on IR35

So unfortunately a business or contractor limited company will not be able to use these tests as a neat, complete checklist to give a definite ‘safe harbour’ on IR35. 

This may not come as a surprise, given that the general approach of HMRC and the courts over the years on employment status, and carrying on business on your own account, has been to go for the broader picture on each case.  By way of example, consider this quote from the case of Hall v Lorimer (1994), which went up to the Court of Appeal:

"In order to decide whether a person carries on business on his own account it is necessary to consider many different aspects of that person's work activity. This is not a mechanical exercise of running through items on a check list to see whether they are present in, or absent from, a given situation. The object of the exercise is to paint a picture from the accumulation of detail."

‘Experts balk at IR35 guidance’

Since the tests were formally unveiled, some advisors have found fault with HMRC for including factors in the questions that the authorities might not deem relevant to determining employment status.

It is indeed easier to see where HMRC are coming from in terms of employment status factors for some of the twelve Business Tests, than for others.

So for example, Right of Substitution has been a well worn test for some time, including as part of the first condition in the Ready Mixed Concrete [1968] case.

With some of the other tests, they can be seen possibly as coming out of other cases. For example, the Market Investigations [1968] case includes comments on one factor being if the worker can profit from sound management of the task, which may be behind HMRC’s Efficiency test in the new test-set. Also HMRC’s existing Employment Status Manual sets out various tests from case law, which have some similarity with some of the other tests.

Point- scoring system goes against the grain

It is harder, however, to see how HMRC have arrived at the specific scores they have given to their new tests, and the large variation between some of them. This does seem to go against the grain of various judges' comments over the years about not being able to have a definitive checklist. 

While you can see the thinking behind some of the scores, it would be interesting to know from HMRC why some tests score so much higher or lower than others. For example, the Right of Substitution test only scores 2 (the same as the Advertising Test), while the Assistance Test scores 35 points.  It will also be very interesting to see how a Tribunal or Court views these scores if either side tries to rely on them in proceedings.

Useful for some PSCs, aspiring and present

Despite the drawbacks of the twelve new Business Tests, which are voluntary, they may have some use for PSC owners and contractors looking to set up PSCs, in terms of seeing where HMRC's thinking on IR35 is currently heading. They may give a steer on how HMRC are viewing various employment status and "in business on your own account" tests, for example if they think some are more important than others. It is useful too, to have some further worked examples in the new guidance. But overall, HMRC’s guidance package still falls some way short of giving contractors a ‘one-stop-shop’ for their IR35 risk analysis.