The impact of IR35 changes

Changes to the rules around IR35 and the legislation being applied rigorously by HMRC is resulting in a number of high profile cases making headlines.

In April 2021, IR35 rules were changed so private sector companies now determine an individual’s IR35 status, rather than the individual themselves. Putting the onus on the company has led to over cautious company directors either stopping using private contractors altogether or being very careful around who they use and for how long. Long term, open ended engagements with individuals trading under a company umbrella are a thing of the past now amid suggestions the economy will ultimately end up being impacted as this flexible route to accessing skills is gradually choked off.  

What is IR35?

In essence, IR35 relates to a tax status ruling that determines whether somebody is effectively acting as an employee of a client company for tax purposes, whilst running their own business. It most often applies to individuals who set themselves up as contractors and then undertake the majority of their work for a single client company. The legislation considers whether actually, that person should, to all intents and purposes, be treated as an employee rather than a contractor.

HMRC’s concern is that the contractor status is actually being used to avoid tax, because as a company director, the ability to draw an income can be far more tax efficient than as an employee. There have been many historic cases whereby companies have made swathes of people redundant on a Friday only to ‘employ’ them all again on a Monday but as contractors. In these instances, the client company stops paying salaries, NI and income tax and instead pays for those services by way of an invoice, which may even include VAT and therefore become tax deductible.

Risks of IR35 legislation

Many will claim that IR35 shows no understanding of the risk on behalf of the contractor. Whilst the overwhelming majority of their work may be for a single client, they are not afforded the same protection as an employee in terms of notice period and employment rights. As has happened, their contract could be cut overnight, effectively leaving them without an income.

On the flip side, a lack of contractors in the market, due to over zealous application of the legislation, will require businesses to build headcount. At a time of economic uncertainty, increased headcount is something most employers would rather avoid. So, if companies don’t feel confident to take on more staff and cannot source the flexibility that freelancers or contractors offer due to IR35 risks, it may lead to inaction or companies throttling back expansion plans which will ultimately hit the wider economy.

IR35 In Action

A recent high profile ruling under IR35 legislation has resulted in a Sky Sports presenter, Alan Parry, being handed down a determination on taxes owed amounting to £356,421, across several years. Whilst Mr Parry was contracted to Sky Sports through his business, Alan Parry Productions Ltd, the courts have ruled that the nature of the contract meant that he was operating as an employee, citing the fact that:

  • Sky had first call on his services
  • Sky had to consent to him undertaking certain other engagements
  • Alan Parry had to accept direction from Sky in the delivery of his services

Whilst this is a slightly extreme example and one which was bound to attract headlines, given the parties involved, the simple fact is it shows the metrics HMRC and the courts are using to make determinations around compliance with the legislation.