The government published a consultation document on the IR35 off-payroll working rules on 5 March 2019. As announced in the Budget in October 2018, the 2017 public sector IR35 rules are being extended to the private sector where the ultimate end user client is a large or medium-sized company. This consultation document is seeking views on how the IR35 off-payroll working rules will operate from April 2020 so that the government can understand how best to implement the reform in "the larger and more diverse private sector". The April 2020 reform will use the public sector IR35 rules as its starting point. Proposed changes to those rules will, if implemented, apply to the public sector as well as the private sector.
Staffing companies which supply into the private sector and/or the public sector should consider responding to the consultation, which closes on 28 May 2019, and make sure that planning ahead for next April is underway.
On 6 April 2017, responsibility for assessing IR35 tax status transferred from personal service company (PSC) contractors (and other intermediaries such as partnerships and sole traders) to staffing companies that place PSC contractors on public sector assignments. Under these rules the assignment is within IR35 if the individual contractor who works on the assignment would be regarded as an employee of the public authority client for tax purposes if that client engaged the individual contractor directly. The staffing company is then responsible for deducting and paying deemed employment income tax and employee's National Insurance contributions (NICs) from the fees it pays for the PSC contractor's services and for paying employer's NICs. The staffing company is also treated as the employer for employment allowance purposes. Payments the staffing company makes to PSC contractors within IR35 count towards the staffing company's pay bill for the purposes of the apprenticeship levy, which it has to pay if its annual pay bill is more than £3 million.
A public authority end user client has a duty to inform the staffing company whether it would regard the individual contractor as its employee if it engaged the individual directly. The public authority is required to take reasonable care in coming to its conclusion on employment status. If a public authority (a) fails to inform a staffing company of its conclusion on a contractor's status, (b) fails to take reasonable care in coming to its conclusion or (c) fails to provide a written response to any questions raised by the staffing company about its reasons for reaching its conclusion on employment status within 31 days of receipt of a request, there is a risk that any liability to pay tax and NICs transfers from the staffing company to the public authority.
These rules will be rolled out to the private sector on 6 April 2020 with some changes for both the private and the public sector.
Key areas discussed in the consultation document and explored in greater detail below are:
- The exemption for small companies
- Information sharing along the supply chain
- Addressing status determination disagreements
- Anti-avoidance provisions
- The application of the off-payroll working rules to "contracted out" services
- Pension contributions
The consultation document also provides guidance on how organisations can prepare for the new rules and sets out HM Revenue & Customs' (HMRC) plans to provide education and support for organisations impacted by the changes. This will potentially include enhancements to HMRC's much maligned digital CEST (Check Employment Status for Tax) tool.
A summary of responses to the consultation will be published later this year, "as soon as possible following the conclusion of the consultation". It is expected that draft legislation, informed by the consultation, will be published this summer. The new rules will come into force on 6 April 2020.
The small company exemption
Small end user clients in the private sector will be exempt from the reform. This exemption will not apply to the public sector. The government intends to use the definition of small company in section 382 of the Companies Act 2006 under which a company qualifies as small if it satisfies two or more of the following requirements in its financial year:
- no more than £10.2 million turnover;
- balance sheet assets of no more than £5.1 million; and
- an average number of no more than 50 employees.
The government is consulting on options for non-corporate entities. Where this exemption applies, the old IR35 rules will continue to apply and the PSC contractor will be responsible for considering IR35 status and for paying the deemed employment income tax and NICs if within IR35. The consultation document states that, where a potential fee-earner (i.e. the entity that contracts with the PSC and would, were it not for the small company exemption, be responsible for assessing IR35 status and paying tax and NICs to HMRC if the assignment is within IR35) does not receive an employment status determination, it will not be required to assess status or pay tax and NICs to HMRC. This seems risky for staffing companies, which may find it best to check and monitor the size of each of their private sector clients to establish whether or not they fall within, and continue to fall within, the small company exemption. It would be preferable if the new rules imposed an obligation on end user clients to provide information about their size and to keep this information updated.
The government is considering including anti-avoidance measures to prevent advantage being taken of the small company exemption through, for example, the entry into artificial or contrived arrangements.
Public sector end user clients are obliged to provide the next party in the supply chain with their determination on the employment status of the individual contractor. They must also provide a written response to any questions raised by that party about their reasons for reaching their conclusion on employment status within 31 days of receipt of a request. There is no legislative requirement to pass this status determination (and the reasons for reaching that determination if requested) down the supply chain to the individual who performs the services. This can leave entities further down the chain, for example the PSC contractor and a staffing company contracting with a managed service provider, reliant on goodwill or contractual provisions in order to receive this information. The government will legislate to ensure that the status determination and the reasons for coming to that determination are passed down to all parties in the supply chain in order to ensure that they comply with their obligations under the IR35 legislation. It may also be the case that the new legislation will require the end user client to provide this information to the individual PSC contractor directly.
The introduction of transparency along the supply chain would be a welcome change. The consultation document suggests that all recipients of a status determination and reasons should pass this information down to the next person in the contractual chain at or before they make the corresponding payment. However, staffing companies which respond to the consultation should consider proposing an earlier deadline. It would be preferable and far more helpful for the obligation to pass a status determination down the chain to be at the latest from the date the PSC contractor starts performing the services and for reasons to be provided immediately on receipt.
The government recognises that there are potential difficulties with this solution and proposes the alternative approach of obliging the end user client to provide the information directly to what the legislation calls the fee-payer, i.e. the entity with ultimate responsibility for assessing IR35 status and paying HMRC the tax and NICs if the assignment is within IR35. The government is seeking views on how the end user client can identify the contractor and the fee-payer, if it is not the party they are contracting with.
Currently, failure by the public sector end user client to (a) inform the staffing company of its conclusion on a contractor's status, (b) take reasonable care in coming to its conclusion or (c) provide a written response to any questions raised by the staffing company about its reasons for reaching its conclusion on employment status within 31 days of receipt of a request, will mean there is a risk that any liability to pay deemed employment income tax and NICs transfers from the staffing company to the public sector end user client. The government is proposing to modify these liability transfer provisions to take account of the new information sharing requirements.
The consultation document suggests that liability should rest with the party that has failed to fulfil its obligations until such time as it meets those obligations. This means that liability would transfer down the supply chain as each party fulfils its obligations. For example, if a managed service provider failed to pass the end user client's employment status determination down the chain to a preferred supplier staffing company it contracts with, the managed service provider would be liable for any tax and NICs due. A fee-payer which had received an employment status determination, but failed to pay tax and NICs to HMRC in relation to an inside IR35 PSC contractor, would remain liable. Ultimately, if necessary, because HMRC was unable to collect from the party contracting with the end user client, for example, because it was insolvent and ceased to exist, HMRC would seek payment from the end user client. This approach to information sharing would assist staffing companies as it would provide an incentive for each party to comply and would ensure that status determinations are passed down the supply chain. However, it may lead risk-averse end user clients to incline towards concluding that contractors are deemed employees and therefore within IR35. The government has considered but will not be seeking to transfer liability to the directors, office holders or associates of fee-payer companies which fail to pay.
Addressing status determination disagreements
There is currently no process in the IR35 off-payroll working rules to deal with disagreements about status determinations between the end user client and the staffing company and/or the individual who performs the services. In addition, instead of status determinations being made on a case by case basis, it appeared that, in contravention of the rules, there were occasions when public sector bodies made blanket decisions on employment status where contractors were in similar roles, leading to disagreements over status. Sometimes the fee-payer and/or the individual contractor disagree with the end user client's status determination where, for example, the end user client is believed not to have taken all the relevant circumstances into account or not to have taken reasonable care in reaching their status determination. The current rules do not contain a process under which an end user client's status determination can be challenged. The government thinks that extending the information sharing obligations will help in these situations. This would include giving the individual contractor and a fee-payer which is lower down the chain after, say, a managed service provider the right to ask the end user client for the reasons for a status determination when this has not been passed down the chain. The government believes that introducing a process to deal with status disagreements led by the end user client will provide the most effective way of resolving such disagreements. Such a process would be based on a set of requirements set out in the new legislation, including, as a minimum, requirements on the end user client to consider any evidence put forward by the individual contractor and/or the fee-payer to support their differing analysis, and to advise on the outcome of that consideration and provide the reasons for it.
The government believes that addressing disagreements by these means will result in end user clients ensuring that they take reasonable care in making their status determinations. It says that it will also mean that fewer individual contractors will be left with using end of tax year processes to challenge status determinations and agreement with end user clients on status will instead be reached in real time. However, it seems that, if agreement is not reached and contractors consider that the end user client has made the wrong status determination, contractors will still have to use processes at the end of the tax year to challenge determinations they regard as incorrect.
Existing anti-avoidance provisions will continue to apply. Where the fee-payer is offshore, the liability will move to the next person above them in the contractual chain which is in the UK. This may be the end user client. If, say, the end user client is outside the UK, but the individual contractor performs services in the UK, the fee-payer will still be liable. Provisions to prevent the abuse of the small company exemption will also be considered.
The application of the off-payroll working rules to "contracted out" services
Most of the sections in the consultation document under the heading "Other matters" appear to cover areas which are not up for debate. The proposal in the section entitled "How the off-payroll working rules should be applied in relation to 'contracted out' services" should be noted by staffing companies which provide consultancy or statement of work services or are considering operating this model of engagement.
Under the current public sector IR35 off-payroll working rules, where there is a provision of outsourced services, such as IT or construction, rather than the supply of labour, the PSC contractor assesses IR35 status and pays the deemed employment income tax and NICs if inside IR35 if there is any entity in the contractual chain which does not make a "chain payment", defined as "a payment, or money's worth or any other benefit, that can reasonably be taken to be for the worker's services to the client". However, the consultation document states that, from 6 April 2020, although for these types of engagement model the private or public sector end user client will not have to consider whether or not IR35 applies, it will be the entity which contracts with the PSC contractor, i.e. the consultancy/outsourced service provider, instead of the PSC contractor that must assess IR35 status and pay to HMRC the tax and employee's and employer's NICs if inside IR35. This will be a significant change if implemented. Implementation seems likely because the consultation document simply states this and does not raise any questions about it as part of the consultation. That said, genuine project agreement and statement of work models of engagement should remain outside IR35. Clarification is needed on whether the small company exemption will apply and, if so, whether this will attach to the private sector end user client or to the outsourcing company as the "client", regardless of the sector into which it is providing the outsourced services.
The government is considering options to allow fee-payers to make contributions free of tax and NICs to individual contractors' personal pensions. This would mean that, for assignments inside IR35, fee-payers would pay employer's NICs on a reduced amount because the pension contribution would reduce the gross pay before tax and employer's NICs are calculated. However, contractors may not want this option and fee-payers may find it too much of an administrative burden.
Staffing companies should consider responding to the consultation and should, if they haven’t already, devise a strategy for dealing with the new rules and consider including the following key components:
- Assign a team to educate themselves and the business on the new rules and take responsibility for planning for the implementation of the new rules.
- Make a full assessment of their contractor base and consider how to engage contractors going forward, including exploring alternative engagement models, such as project-based or statement of work contracts.
- Review private sector clients by size to work out which are small companies and will be exempt from the new rules.
- Work with all end user clients to reassure them and educate them on the new rules before they come into force, making sure that large and medium-sized businesses in the private sector are aware of their obligations and ensuring in particular that they understand that the legislation will not permit them to take a blanket approach to assessing status and simply decide to treat all contractors as being within IR35.
- Find out from large and medium-sized private sector end user clients which contractors are business-critical and exploring options.
- Communicate with, educate and reassure contractors.
- Train recruitment consultants to understand the new rules, be able to deal with straightforward queries from clients and contractors and know when and where to refer more complex queries internally.
- Review existing client and contractor contracts and vary them where necessary or enter into new ones. Remember that contracts must reflect the reality on the ground and the correct status. Look out for "own goals" because of inaccuracies such as employment indicators in contracts.
- Anticipate the introduction of the new rules when tendering for new client contracts and factor this in when negotiating and entering into new contracts.
- Change or set up systems for onboarding, invoicing, payment and payroll processes to take account of and apply the new rules.
- Forward plan to monitor the size of private sector end user clients and employment status during assignments.