Q&A with HMRC on the now in force IR35 off-payroll working rules
A government review last year into the new off-payroll rules (proposed at the time for introduction in April 2020), found “some opposition” to the rules. Was this not grounds to stop the rules in their tracks?
HMRC: On February 27th 2020 the government published the outcome of its review into the implementation of the off-payroll working reforms.
The government believes it is right to address the fundamental unfairness of the non-compliance with the existing [IR35] rules, and is introducing a series of measures to ensure the smooth implementation of the changes to the off-payroll working rules. These include:
- HMRC will take a light-touch approach and businesses will not have to pay penalties for inaccuracies in the first year, except in cases of deliberate non-compliance.
- Detailed guidance on the reforms has been published by HMRC.
- HMRC will ramp up its communications efforts to support contractors understanding of the rules. This includes guides and webinars, and will complement the significant work already in train to support businesses to prepare.
- The government has confirmed that new information from the changes will not be used to open investigations into Personal Service Companies (PSC) for tax years prior to 6 April 2021, unless fraud or criminal behaviour is suspected.
- Contractors and agencies will have a legal right to ask an organisation for confirmation of its size [to ascertain whether the end-user is a 'small company' and therefore exempt].
Which one aspect of private sector IR35 reform do taxpayers tend to misunderstand?
HMRC: Some contractors have been concerned that HMRC will open investigations into previous tax years if the off-payroll working rules apply and they are found to be employed for tax purposes.
HMRC has already committed to not using information resulting from the changes to the rules to open a new compliance check into Personal Service Companies for tax years prior to 6 April 2021, unless there is reason to suspect fraud or criminal behaviour. This commitment is set out clearly in our guidance.
In addition to this commitment, and in response to the review, HMRC announced that it will take a ‘light-touch’ approach to penalties and customers will not have to pay penalties for inaccuracies relating to off-payroll in the first year, except in cases of deliberate non-compliance. We don’t want to charge penalties, we just want to help organisations get the rules right.
How do the changes to the off-payroll working rules affected payments to contractors made before 6 April 2021, or contracts than span 6 April 2021?
HMRC: The government has announced that the new off-payroll working rules will only apply where payments are made on or after 6 April 2021, for services provided on or after 6 April 2021. Previously the rules applied to all payments made from 6 April 2021, even for services provided before 6 April 2021.
How will HMRCs enforce IR35 reform?
HMRC: On 15 February 2021 HMRC published a statement outlining its compliance principles to the changes in the off-payroll working rules.
Additionally, the central aspects to HMRCs compliance approach are:
- Information resulting from the changes to the rules will not be used to open a new compliance check into personal service companies for tax years prior to 6 April 2021, unless there is reason to suspect fraud or criminal behaviour.
- A self-help guide for contractors and agency workers on how to avoid entering into non-compliant arrangements is available.
- HMRC will take a ‘light-touch’ approach and customers will not have to pay penalties for inaccuracies relating to the off-payroll working rules in the first 12 months unless there is evidence of deliberate non-compliance.
- HMRC will focus on and address the most significant risks around IR35 non-compliance. HMRC will always follow up on suspected non-compliance if there is a sign of potential criminal activity.
Can HMRC explain its claim that ‘the reform doesn’t affect the genuinely self-employed,’ given that many engagers have terminated genuinely self-employed contractors purely because the engagers wish to remove their operations from the reform’s scope?
HMRC: Employment status, whether someone is employed or self-employed, is not a matter of choice. It depends upon the terms and conditions of a particular engagement and a person’s actual working practices. The fact that services are supplied through a personal service company (PSC) is not necessarily relevant to whether a person is employed or self-employed.
The off-payroll working rules only apply to individuals who are working like employees under the current employment status tests, and do not apply to the self-employed.
The government is aware that some organisations are considering whether PSCs are the best way to engage contractors who are working like employees. However, the government has not seen any evidence that this indicates an overall change in demand for the skills and services contractors offer, but will continue to monitor impacts on the labour market.
Many organisations will still choose to engage contractors through PSCs in this way where this suits their business model. Organisations will continue to be free to decide how they engage their workers and it will be for those workers to decide whether they wish to accept the terms and conditions. Independent research on the impacts of the reform in the public sector did not show any evidence of reducing market flexibility or impact the use of contingent labour.
What is HMRC’s stance on blanket IR35 assessments?
HMRC: We have been working with engagers to make sure they assess their contractors correctly. While it’s reasonable for large numbers of people in similar roles to have similar arrangements, we’ve been clear that engagers must not make blanket assessments and the legislation requires that those making determinations take reasonable care. All decisions need to be based on an individual’s contractual terms and actual working arrangements.
During the review [of the rules in 2020], many businesses and public sector organisations described processes they put in place to ensure determinations were correct, based on the actual working practices of the individuals. Many organisations reviewed their hiring practices and decided that it was more appropriate to bring contractors onto their payrolls as employees. This is a business decision for organisations to make.
The government has already ensured there is a client-led appeals process where contractors can lodge a complaint, if they disagree on how they have been categorised. HMRC are continuing to help businesses to enable them to get categorisations right and will commission independent research six months after the reform to confirm that decisions are being made properly.
What has HMRC done to ensure businesses are prepared, properly, for the now in-force new rules?
HMRC: We have carried out a substantial programme of education and support to help organisations and contractors prepare for the changes, including one-to-one support for around 2000 of the largest employers and we have written directly to over 40,000 medium sized organisations. HMRC has also:
- Delivered a series of webinars and workshops for tax agents and organisations.
- Launched an enhanced version of the Check Employment Status for Tax (CEST) tool
- Ramped up its communication campaign to inform contractors of the changes. In addition to a contractor factsheet, HMRC has published a ‘know the facts’ document, to help contractors prepare, alongside flow charts and case studied. These are here.
- Published detailed guidance in the Employment Status Manual.
- Attended a number of stakeholder events across the country.
In March 2021, HMRC also made a number of technical changes to make sure the off-payroll working legislation operates as intended.
What are the responsibilities of each party in a typical contractor supply chain?
HMRC: Public sector organisations, or medium and large-sized non-public sector organisations (contractors’ private sectors clients) need to:
- Decide whether contractors they engage through intermediaries, such as personal service companies (PSC), fall within the off-payroll rules. This means deciding their employment status for tax purposes. They must take reasonable care when making this decision and HMRC has published guidance on what constitutes reasonable care.
- Provide contractors with a Status Determination Statement (SDS), which sets out their decision and the reasons for this.
- If they engage a contractor’s PSC directly, and the off-payroll working rules apply, they are responsible for setting the contractor up on its payroll and deducting income tax and National Insurance Contributions (NICs) before paying the contractor’s PSC.
- If they do not engage the contractor’s PSC directly, they must pass the SDS to the agency they contract with (the next agency in the supply chain).
- Set up a Status Disagreement Process through which representations made by a contractor may be handled.
Agencies need to:
- Pass the SDS on to the next agency in the chain, if they do not engage the contractor’s PSC directly.
- If the off-payroll working rules apply the agency who is the deemed employer must set the contractor up on its payroll and deduct income tax and NICs before it pays the contractor’s PSC for its services. This is usually the agency who contracts directly with the PSC (the ‘fee-payer’). This could be an umbrella company.
Contractors need to:
- Consider whether their client is a small non-public sector organisation. If so, they need to continue to apply the off-payroll working rules [themselves].
- If the client is not a small non-public sector organisation, contractors might need to provide their client with some information if requested in order for their client to make a decision about whether the off-payroll working rules apply.
- Understand from their client whether their contract falls within the off-payroll working rules.
- If the contractor wishes to get statutory payments, they will need to pay themselves a salary from their PSC and report this on the Full Payment Submission (FPS) using box 58A.
- Submit RTI returns as normal for salary payments made by the PSC to the contractor. For payments which have been subject to income tax and NICs by the client, these should be reported on the Full Payment Submission (FSP) as non-taxable, non-NIC-able payments. This means contractors won’t have to pay tax and NICs again on the salary or dividends taken up to the amount which has already been subject to income tax and NICs through the off-payroll working rules.
- Submit SA returns for any other income which has not been subjected to the off-payroll working rules. The SA return will only need to include taxable pay.
- Submit Corporation tax returns and account for the treatment of VAT as normal. Further information can be found here.
What if a contractor disagrees with the IR35 status decision?
HMRC: If a contractor disagrees with the decision made by their client on their employment status for tax, they will be able to raise their concerns through their client’s Status Disagreement Process.
All clients are required to introduce a process from April 6th 2021 to ensure they consider contractors views if they disagree with the client’s decision. Further guidance on this can be found here.
What if there is non-compliance in the supply chain?
HMRC: If a person in the contractual chain does not meet its responsibilities under the off-payroll working rules, liability for income tax and NICs will remain with it. A client must take reasonable care in making a status determination and issue its conclusion in a SDS, with reasons, to the individual and the person it contracts with. By doing this it will discharge its responsibilities. Each agency in the chain has a responsibility to pass the SDS down the contractual chain until it reaches the fee-payer. If an agency does not do this the liability will rest with it.
If HMRC cannot collect the liability from that party, it may collect the debt from the agency closest to the client, or the client. In the case of a genuine business failure, HMRC will not look to recover the debt from another party.
The liability will not move to the contractor.
HMRC will focus on and address the most significant risks around non-compliance. HMRC will always follow up on suspected non-compliance if there is a sign of potential criminal activity.
How can contractors obtain tax relief for ongoing work they need to pay an accountant for with the removal of the 5% tax-free allowance?
HMRC: This allowance will no longer be needed when a contractor works for a medium or large-sized organisation, as PSCs no longer need to consider and apply the rules.
Contractors will also now not have to pay Employer’s NICs. Prior to the change in rules, if the off-payroll working rules applied, the PSC was responsible for deducting the Employer NICs from the fee paid to their company for the contractors services.
Individuals will be able to claim tax relief on certain allowable expenses that they incur while doing their jobs, similar to employees.
Are small public sector organisations now exempt from the rules, given that small organisations in the private sector are exempt ?
HMRC: The changes in the IR35 rules on 6 April 2021 will only apply to medium and large-sized organisations outside of the public sector. The rules changed for the public sector in April 2017 and apply to all public authorities, regardless of size.
What are the HMRC rules on IR35 relating to ‘contracted out services’?
HMRC: Whether a contract is for a service which is fully contracted out is a question of fact, based upon the commercial reality of the arrangements.
The organisation that receives the contracted out service will have no obligations under the off-payroll working rules. The organisation benefitting from the provision of labour, and are most akin to the contractors employer, will be responsible for deciding whether the off-payroll working rules apply.
Care should be taken to ensure that a labour supply contract has not simply been re-labelled as a ‘managed service.’ For example, labelling a contract as a contracted out service or a ‘statement of work’ will not prevent the off-payroll working rules from applying, and the reality of the arrangements should be considered. Further information, including examples, can be found here.
Is HMRC concerned that the off-payroll working rules will likely lead to an increase in umbrella company working, given that umbrella companies are not regulated, and that PSC contractors might not know what consideration to make if approaching an umbrella company for the first time?
HMRC: Umbrella companies are employment businesses typically used by employment agencies. The agency places the temporary workers that it recruits with an umbrella company, making them employees of the umbrella, so it doesn’t have to make them direct employees of the agency or have to pay employment taxes itself.
The umbrella company is responsible for paying the worker’s wages, employer National Insurance contributions (NICs) and the provision of employment rights. Most umbrella businesses are compliant with tax and employment laws.
However, some promoters have pushed avoidance schemes, including disguised remuneration schemes, which do not work. Some umbrella companies have become involved in these schemes, and may market themselves directly to contractors as a tax-efficient means of engagement.
Contractors shouldn’t be tempted by tax avoidance schemes, including those that claim to ensure you are not affected by the off-payroll working rule, or that otherwise offer to increase your take-home pay. If something looks too good to be true, it probably is.
Finally what are the likely impacts of private sector IR35 reform on the labour market?
HMRC: Following the 2017 changes to the public sector, the government commissioned external independent research which showed no evidence that the changes disrupted public services or reduced market flexibility.
On 27 February, the government published the full outcome to its review of the implementation of the changes. This confirmed the government would also commission out external research on the impacts of these changes 6 months after implementation on April 6 2021.
In March 2021, HMRC also published ‘Effects of the off-payroll working reform: education report.’ This report concluded that there is little indication, overall, that education sector sites are reducing their engagement with personal service companies as a result of IR35 reform, and the research found no other major issues resulting from the reform.
Editor's Note:Wording in HMRC's answers exactly as submitted to ContractorUK, except for some small omissions to avoid repetition, and some small additions/revisions to reflect the passage of time since HMRC gave its answers.