Established in 1999 and then introduced under the Finance Act for April 2000, the IR35 has been around for a long time. However, with over 4 million workers choosing to operate as independent contractors, it’s more important than ever to understand what it means to work outside IR35 fully.
In a nutshell, if you’re inside IR35, you should be paying employed levels of tax. This means that you should be regularly paying the correct amount of tax from your income. If you are outside IR35, you may be paying towards tax independently, using a combination of salary and dividends.
But What Exactly is IR35?
IR35 is tax legislation designed to combat tax avoidance. Tax avoidance is most commonly carried out by workers supplying their services to clients via an intermediary, such as a limited company, but who would be an employee if the intermediary was not used. Simply put, if you’re doing a job as an independent employee but operating under a limited company, you’re working out with IR35, and it may not be legal.
These workers are referred to as ‘disguised employees’ by Her Majesty’s Revenue and Customs (HMRC). If caught, these workers must pay income tax and National Insurance Contributions as though they were employed and can incur huge fines. The reason that many contractors choose to avoid IR35 legislation is that the financial impact of this particular law can significantly reduce a worker’s net income by up to 25%. This is the very reason that many choose to work outside of IR35. However, it’s not worth it, and it’s always advised that you operate professionally, and above all, legally.
Operating as a Genuine Business
In order to be above board and correctly set up when it comes to IR35, you must be able to successfully demonstrate that your “in business on your own account”. You must show that you are a genuine business and not simply using a limited company as a vehicle to pay less tax.
When thinking about how a genuine business operates, you must consider the following three questions. These will help you to determine whether you are working within IR35 or not.
1. Does the company market itself to potential clients? If someone were to search for your company online, would there be corporate contact details and a website? Or would they instead find only information specific to you? For a company to be legitimised, there must be proof that it exists beyond your say so.
2. Is the contract for services or specifically your services? To be outside IR35, contracts should be for your company to provide services. The contract should avoid stating that you will personally perform the required duties and instead offer the services as a company.
3. Is there a substitute available if you can’t provide the services?
As a company that offers a range of professional services, if you fall ill or can’t provide a service, is there someone who can step in and take over? If the answer is no, this would indicate that you are an employee as opposed to a limited company which means you may be in breach of IR35 legalisation.
Keeping Above Board
With an impending clamp down on those operating outside the IR35 legislation, it’s critical that contractors pay the right amount of tax to avoid huge fines and potential charges.