Top four IR35 red flags that could trigger an HMRC investigation into your status

Navigating the complexities of IR35 and off-payroll working compliance can be a daunting task for contractors.

And with HMRC's ever-watchful eye on those who might be skirting the rules, understanding what could trigger an IR35 investigation is crucial, writes Nigel Nordone, head of tax at Qdos Contractor.

How does HMRC select IR35 investigation targets?

HMRC’s exact methods for selecting who to investigate remain somewhat secretive, and actually some enquiries are undertaken entirely at random. That said, we do know that certain patterns and behaviours are likely to attract greater scrutiny.

In fact these are the top four IR35 red flags that could trigger an HMRC investigation:

1. High dividends, low salary

When a contractor takes a low salary, they pay less in employee and employer National Insurance contributions and lower income tax. The remainder of the company’s profits are taken as dividends, which are taxed at a lower rate than salary and are not subject to National Insurance. While this is perfectly legitimate, HMRC might interpret this as a contractor manipulating their income to avoid paying the higher taxes associated with an ‘inside IR35’ working arrangement.

2. High percentage of income from one client

If HMRC decides to investigate a contractor’s tax compliance, they’ll be looking for red flags that indicate working relationships more akin to employment (inside IR35) than self-employment (outside IR35).

One of these factors is ‘Mutuality of Obligation’ – that is, the expectation that the client will provide work and the contractor will accept it. When a contractor derives a high percentage of their income from a single business, it can suggest a level of dependency and continuity that resembles an employee-employer relationship.

There’s nothing wrong with contractors performing a lot of work for a single client.

But it does mean both the engager and the contractor need to tread more carefully when it comes to IR35 compliance. For example, using a reliable status assessment tool, ensuring the working contract is clear, and for contractors, keeping detailed evidence of other activities that demonstrate your PSC’s legitimacy.

3. Giving off ‘part and parcel’ vibes

To determine a contractor’s IR35 status, HMRC will employ several tests, one of which is known as ‘part and parcel’. This means HMRC will look to see if a contractor has become so integrated into the client’s organisation, that one could argue the contractor plays an integral part in the business.

These factors can be obvious, like having your own desk in the office; being asked to manage employees, or having unrestricted access to the premises.

However, ‘part and parcel’ indicators can also be more subtle, such as having a company email address and signature, being provided paid training opportunities, or even eating in a subsidised canteen!

While these latter few points certainly aren’t enough to put you ‘inside IR35’ on their own, HMRC could use them as evidence in building up a complete picture of your working practices. For this reason, it’s important to always maintain clear distinctions and boundaries.

4. Not managing your other tax affairs efficiently

There can also be what’s known as ‘indirect’ triggers for an IR35 investigation by HMRC.

This means that you’ve done something incorrectly that’s caught the eye of the Revenue, and they decide to dive further and investigate your overall tax compliance.

For example, if HMRC notices discrepancies or irregularities in your VAT returns, it might prompt them to scrutinise your IR35 status and working practices, too. Even if your working arrangements are totally compliant with the IR35/OPW rules, no one wants the stress and hassle of an investigation, so it obviously pays to ensure that all aspects of your tax affairs are managed efficiently, accurately and ideally, with the help, skills and HMRC-nous of an adviser.

Monday 3rd Jun 2024
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Written by Nigel Nordone

Nigel Nordone is the charismatic head of tax at Qdos, leading the IR35 contract review firm’s team of IR35 consultants to deliver the best in compliance. Nigel’s a former HMRC Inspector of Taxes specialising in IR35, tax investigations, status, PAYE, and employer compliance. He has first-hand experience into HMRC’s handling of enquiries, and has personally represented hundreds of clients who have been under IR35 enquiry over the past two decades.

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