Don’t skip that IR35 issue this tax season

Make sure that ir35 accountant is on point with Pearl Lemon Accountants. Several pieces of tax-avoidance legislation are set to change in the near future and that has the potential to affect small businesses and freelancers alike.

Even though the coronavirus caused the schedule to be pushed back, the new rules on IR35 will still apply to private employers starting in April 2021. Small businesses and contractors will be hit equally by the tax increases, according to the Federation of Small Businesses.

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How does IR35 work?

What is IR35? Also known as the “off-payroll working rules”, IR35 governs individual contractors. As a result of IR35, contractors cannot work under the guise of contractors while actually they are employees.

If a contractor is operated through his or her own limited company, then the contractor is treated similarly to employees of the client and will be considered as being in IR35, which means additional taxes will have to be paid.

How has IR35 changed recently?

In 1981, Gordon Brown introduced IR35, in an attempt to prevent employers from being able to avoid tax by treating employees as contractors.

It has become notorious however as HMRC has sometimes accused businesses of hiring contractors improperly – even when they thought they were doing so.

Employers in the private sector will need to determine whether IR35 applies to contractors they hire – and will have to treat those contractors as employees for tax purposes after April 2021. The public sector already does so.

Consequently, businesses in the private sector will have to decide what to do: either treat contractors as contractors with the risk of hefty fines from HMRC – or treat them as employees, which comes with increased costs and responsibilities.

Genuine contractors are concerned that they will be classified as employees, and therefore be subject to unfair taxation, or lose their contracts entirely.

Do you fall within or outside IR35?

There are differences in treatment between employees and contractors, which led to the introduction of IR35. An employer must pay the employer’s National Insurance contributions and provide an employee with a pension, paid holidays, sick pay, and other benefits (perhaps).

In contrast, contractors are paid a flat fee and can be dismissed easily if they no longer need their services.

Contractors have a tendency to operate as limited companies, either as individuals or as umbrellas.

Contractors rarely operate as sole traders, as unlimited liability makes it risky for them, while employers are worried about HMRC thinking that they are employees. Contractors can also pay less taxes by operating as a company.

As a company, however, contractors are still employees in all but name – which is what IR35 deals with.

For tax purposes, therefore, a contractor ought to be treated as an employee if they perform similar duties as an employee. HMRC takes a very close look at companies that provide ‘personal service’.

Who are personal service companies?

While a personal service company (PSC) may sound dubious, it is merely a company operated by a contractor to perform freelancing (since most businesses won’t hire a sole trader).

HMRC uses the term “cover companies” to describe contractors who are in reality employees, but appear to be using these companies as ‘cover’.

Contractors and the businesses that use them are both affected by this, which creates a double issue.

If a business fears being considered as an employer by HMRC, it may not engage any contractors. Both the contractor and the business lose. The majority of small businesses worry that this will occur after April 2021.

David Prior

David Prior is the editor of Today News, responsible for the overall editorial strategy. He is an NCTJ-qualified journalist with over 20 years’ experience, and is also editor of the award-winning hyperlocal news title Altrincham Today. His LinkedIn profile is here.