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Why does IR35 apply only to Personal Service Companies, not to sole traders?

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    #11
    Originally posted by TestMangler View Post
    A sole trader can't split salary and dividends for a start, so there is a lot less avoidance around the sole trader model.
    (In IT at least, where the trader is not paid in cash). A sole trader will have to pay the requisite tax on their turnover minus expenses with no other option for moving things around to avoid the old 'fair share'. A sole trader will have to pay the taxes due (Income Tax and NIC) for their income minus expenses.
    Useful comparison of sole trading via LTD

    Sole trader v. limited company: key tax & legal differences - RossMartin.co.uk
    Last edited by Contractor UK; 28 June 2020, 20:16.
    'CUK forum personality of 2011 - Winner - Yes really!!!!

    Comment


      #12
      Originally posted by TestMangler View Post
      A sole trader can't split salary and dividends for a start, so there is a lot less avoidance around the sole trader model.
      (In IT at least, where the trader is not paid in cash). A sole trader will have to pay the requisite tax on their turnover minus expenses with no other option for moving things around to avoid the old 'fair share'. A sole trader will have to pay the taxes due (Income Tax and NIC) for their income minus expenses.
      so there is a lot less avoidance around the sole trader model.
      accepted, but surely that is the crux of the issue. If employment status is used to determine IR35 liability, then surely the same rules should apply to sole traders. It's not the commercial structure which dictates the tax liability, it's the nature of the engagement.

      Employment status determines tax status and benefits status, not the other way around.

      Comment


        #13
        Originally posted by proudfeet View Post
        The purpose of IR35, unless I am very much confused, is to determine whether or not an individual is effectively an employee of the client, and that they should be taxed appropriately. Employees pay more tax (when adding employer NICs) than sole traders. So shouldn't IR35 apply equally to sole traders? And if a sole trader is 'inside' IR35 then they should be taxed as if they are an employee?
        The purpose is not to determine whether an individual is an employee, that's just the wheeze they use. The purpose is to raise more tax.

        It has an effect because of the tax imbalance between working as an employee and working as a director of a PSC.

        Sole traders:
        1. Pay NI on all their profits. PSC directors pay NI only if they take a significant proportion of their income as salary (most don't).
        2. Pay NI on money used for pension contributions. PSC directors do not, the company pays the contributions directly with no tax hit.
        3. Cannot money box and take the money later as capital gains. PSC directors can.
        4. Cannot claim Entrepreneur's Relief on those capital gains. PSC directors can.
        5. Cannot smooth income by taking reduced dividends in higher income years and paying the rest in low income years. They will pay higher rate and perhaps additional rate tax in high income years. PSC directors can smooth their income.
        6. Cannot make a spouse a shareholder to split income and take advantage of spouse's personal allowance and lower rate band. PSC directors can.
        7. Can only justify paying a spouse a salary commensurate with the work the spouse does. PSC directors can make a spouse a director and supplement the salary for work done with a (reasonably small) director's stipend, reducing corporation tax and higher rate taxes.

        All of these mean that working as a sole trader is significantly less tax advantageous, when income pushes up into higher rate band, than using a PSC. For these reasons, the tax advantages of working as a sole trader are relatively small compared to full employment, and so simply aren't worth chasing that much. Add to that the fact that there are significant barriers to self employment (sole trader status), from the contractor's side liability concerns and from the client side the risk of being dragged before an employment tribunal and expected to pay for holidays, etc. That means that there simply aren't that many sole traders out there in the higher paid IT field.

        So, there's not that much money for HMRC to chase. If they dragged sole traders inside IR35 they wouldn't have that much tax to collect anyway because they've paid a lot already, nor that many targets. And the cost of chasing IR35 cases is high.

        So there's no real incentive for them to apply it to sole traders.

        Comment


          #14
          Originally posted by WordIsBond View Post
          The purpose is not to determine whether an individual is an employee, that's just the wheeze they use. The purpose is to raise more tax.

          It has an effect because of the tax imbalance between working as an employee and working as a director of a PSC.

          Sole traders:
          1. Pay NI on all their profits. PSC directors pay NI only if they take a significant proportion of their income as salary (most don't).
          2. Pay NI on money used for pension contributions. PSC directors do not, the company pays the contributions directly with no tax hit.
          3. Cannot money box and take the money later as capital gains. PSC directors can.
          4. Cannot claim Entrepreneur's Relief on those capital gains. PSC directors can.
          5. Cannot smooth income by taking reduced dividends in higher income years and paying the rest in low income years. They will pay higher rate and perhaps additional rate tax in high income years. PSC directors can smooth their income.
          6. Cannot make a spouse a shareholder to split income and take advantage of spouse's personal allowance and lower rate band. PSC directors can.
          7. Can only justify paying a spouse a salary commensurate with the work the spouse does. PSC directors can make a spouse a director and supplement the salary for work done with a (reasonably small) director's stipend, reducing corporation tax and higher rate taxes.

          All of these mean that working as a sole trader is significantly less tax advantageous, when income pushes up into higher rate band, than using a PSC. For these reasons, the tax advantages of working as a sole trader are relatively small compared to full employment, and so simply aren't worth chasing that much. Add to that the fact that there are significant barriers to self employment (sole trader status), from the contractor's side liability concerns and from the client side the risk of being dragged before an employment tribunal and expected to pay for holidays, etc. That means that there simply aren't that many sole traders out there in the higher paid IT field.

          So, there's not that much money for HMRC to chase. If they dragged sole traders inside IR35 they wouldn't have that much tax to collect anyway because they've paid a lot already, nor that many targets. And the cost of chasing IR35 cases is high.

          So there's no real incentive for them to apply it to sole traders.
          The purpose is to raise more tax.
          excellent analysis.

          Comment


            #15
            Originally posted by JohntheBike View Post
            excellent analysis.
            Pointless post.
            'CUK forum personality of 2011 - Winner - Yes really!!!!

            Comment


              #16
              Originally posted by northernladuk View Post
              Pointless post.
              I must disagree. Anything that has a chance to inflate my ego is not pointless.

              Valueless, perhaps, but those are different thing.

              Comment


                #17
                Guys, thank you so much, you have answered my query expertly. You will be making multiple entries in my evening gratitude journal

                So in conclusion: there is employment law regarding whether or not an individual is self employed or an employee. However, it is not the sole trader's problem if they get it wrong, it is the client's. Clients therefore, for this and many other reasons, are extremely reluctant to hire sole traders.

                My situation is a little more complicated because my client is outside the EU and may be entirely unaware of any possible consequences of my employment status (as a sole trader) being incorrect. I have their best interests at heart so I still wish to figure out myself what my appropriate status is. I shall probably be seeking expert advice on the subject, but I'm curious whether anyone here has experience with this, with contracting for a non EU company?

                Comment


                  #18
                  Originally posted by proudfeet View Post
                  My situation is a little more complicated because my client is outside the EU and may be entirely unaware of any possible consequences of my employment status (as a sole trader) being incorrect. I have their best interests at heart so I still wish to figure out myself what my appropriate status is. I shall probably be seeking expert advice on the subject, but I'm curious whether anyone here has experience with this, with contracting for a non EU company?
                  IR35 does not apply.

                  If this contract is likely to last long, you should give some serious consideration as to whether or not you would be outside if you did form a limited company. If you would be outside, and you probably would (almost always with foreign clients you will be), you would be much better off using a Ltd Co.

                  I currently have 2 contracts running, both with non-EU clients. I go direct (no agents involved), but then I have lots of contacts from my permie days when I wrote for industry journals, spoke at conferences, etc.

                  Are you through a UK agent or are you direct to client?

                  Comment


                    #19
                    Originally posted by WordIsBond View Post
                    Are you through a UK agent or are you direct to client?
                    Direct.

                    Good to know it does not apply

                    There is still the question of whether or not the client can get in trouble if I continue to be a sole trader though. I will find an expert

                    Comment


                      #20
                      It is hard for me to see in what way the client could get in trouble. They've entered into a business-to-business relationship with a company that happens to be in the UK, but they have no presence there.

                      They aren't under the jurisdiction of the UK authorities (unless they have a business presence here). Neither UK employment law nor UK tax law applies to them, nor could it.

                      UK tax law applies to you, but IR35 doesn't because it is 'intermediaries' legislation and there is no intermediary. If you form a Ltd then it will be an intermediary and IR35 would have to be considered. For now, there is no intermediary between you and the client.

                      If for some reason tax authorities were to deem you to be an employee of your client instead of a sole trader, and that you should be taxed accordingly, it would gain them nothing. Employer NI does not have to be paid on the salaries of UK employees of foreign corporations. So you would have to be NI on your salary (but you are paying it anyway) and you would have to pay income tax on it (but you are paying it anyway). So there's no reason for them to try to do that, and no comeback against the foreign client if they did.

                      I think you are worried about nothing here.

                      If the foreign client has a UK presence (an office or branch or subsidiary or something), that could change some of what I've written above.

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