Disappointing IR35 test is plain wrong, in law

The taxman has finally unveiled his latest attempt to provide more clarity over IR35, writes John Hill, of employment tax and IR35 advisory John Hill & Associates.

But a number of contractor websites are wrongly portraying the new risk assessment tests as an updated indicator of whether or not a contractor is likely to be subject to IR35. This is not the case, and there is a danger that the new tests will somehow be regarded as replacing established case law and business tests, which they will not.

What the IR35 business tests aren’t (cont)

All the tests will show is whether or not HM Revenue & Customs will consider a contractor a high, medium or low IR35 risk. They may well inform (or more likely alarm) some contractors that they are seen as a higher risk by HMRC, but they do not offer any further clarity over whether or not a specific contract is subject to IR35.

Some of this alarm is because HMRC’s interpretation of the risk questions appears to be at odds with existing case law - and the views of many employment tax practitioners.

Where HMRC is at odds with case law

For example, HMRC considers that a right of substitution (scoring only 2 points) is equal in weight to issuing an invoice for the work done or having professional indemnity insurance. This is just plain wrong in law. The fundamental tests, which were established in Ready Mixed Concrete case [1968], are that:

  1. The servant agrees that, in consideration of a wage or other remuneration, he will provide his own work and skill in the performance of some service for his master
  1. He agrees, expressly or impliedly, that in the performance of the service he will be subject to the other’s control in a sufficient degree to make that other the master
  1. The other provisions of the contract are consistent with being a contract of service

It is important to note that the judge, Mr Justice MacKenna, indicated that all three conditions must be satisfied before a contract of service exists. So if there is a real and genuine right of substitution then condition (1) cannot be satisfied even if substitution has not taken place.

Business premises and Advertising tests

The test from HMRC also gives a surprisingly high 10 points for having separate business premises. Now for some contractors it may well be necessary to have separate premises but in today’s working world a laptop and mobile phone are often all that are needed. A key element of being in business is being able to profit from sound management - and I would argue that saving costs by working from a home-based office, rather than renting separate premises, is a sound business decision.

Elsewhere, some weight is also given by HMRC to spending on advertising in excess of £1,200 a year. Again this is a moot point. For many contractors, once their website is up and running and they are obtaining work from recommendations, a large spend on advertising is not necessary and may even not make sound business sense.

What the IR35 test should have asked

A particular absence in the test is the number of contracts/assignments undertaken. When looking at the contractor’s overall business (as these tests do) and not at individual contracts (as the law demands), it must surely be a significant factor if a contractor has had several contracts in a year; has worked on a number of specific and distinct projects, has had concurrent contracts or has serviced a number of clients. Certainly these factors are more important than having a business plan, for which a point is awarded.

In truth, the new tests are a disappointment as they do little to provide any further clarity as to whether or not a specific assignment or contract is likely to be caught by the IR35 rules and for that, a professional IR35 opinion will still need to be sought, assuming contractors want piece of mind. At the very least, such a review will inform the contractor and advisor of how HMRC is likely to view them from a risk point of view and, if they are a high risk, it might be worth taking professional advice sooner rather than later.

Tuesday 22nd May 2012
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Written by Simon Moore

Simon writes impartial news and engaging features for the contractor industry, covering, IR35, the loan charge and general tax and legislation.
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