Why You Need to Prepare for IR35

December 1, 2016

£500,000. Just one of the fines levied by Government against a public sector organisation for failing to comply with the IR35 Assurance process.

Contractors too, are aware of the costs. If found to be a disguised employee they’ll face a higher rate of tax and a potential drop in earnings of 20%.

IR35 is in effect and it’s very visible.

This piece of legislation (so called because it was note 35 in the 1999 budget) was sparked into action in 2000, by a Government keen to clamp down on tax avoidance. It aims to prevent those who are employed on a Friday, turning up on a Monday with a limited company. (You can pay less tax through a limited company, by taking minimal taxable drawings and maximum dividends.)

In 2016, a contractor’s IR35 status is determined by a ‘picture’ of how they operate day-to-day, the reality of which must be reflected by the contract. Determined to get their house in order before moving on to the private sector, HMRC are turning to public sector organisations first to reduce tax avoidance.

Being caught inside IR35 will cost a contractor the additional NI contributions deemed payable. Back payments may also be required. From April 2017 it’s the company that pays the contractor who’s liable. Clients and agencies are under scrutiny.

For an entity such as the BBC, IR35 strikes a particularly difficult balance. Responsible for the tax payers’ money, they also have a duty of care to all contractors who are now employees. How then, to support presenters investigated by HMRC over their IR35 status when contracting, while carefully allocating the license fee? Each individual is entitled to have their case decided on its own merit; an expensive route to court.

But aside from fines, what are the additional direct and indirect costs companies are likely to face preparing for or responding to IR35? And what can be done now to reduce, mitigate or control such costs?

This article addresses cost concerns for clients and offers recommendations on how to reduce and control them. As the title suggests: act now, save later.

IR35 in emergencies 

IR35 strikes hardest when HMRC unexpectedly investigates. If you are ill-prepared the situation can feel like an emergency. Responding ‘in anger’ to such an event should not be the only option. You should not have to pull resource from other projects or scramble for solutions. Fingers may be pointed – and with an inspection required to ensure everyone is behaving as they’re meant to, morale can quickly deplete.

The impact on a company’s internal processes is easy to imagine. The audit may call for the employment status of every employee and contractor, requiring payroll records, expense claims, cashbooks and petty cashbooks, IR35 policy and practice, along with copies of all contracts. Resourcing and managing such an investigation at a large organisation is a sizeable undertaking.

In anticipation of such investigations, more and more companies are investing in voluntary audits, to clearly identify the scale, cost and gaps in their contractor management processes. Our experience in conducting such investigations for clients of various sizes, illustrates the demands on time and talent resources. Harvey Nash typically provides a team and the project can take between 2 and 6 weeks depending on the scale. For a business to resource the project in a similar manner is often inconceivable.

In anticipation of IR35

Preparing for IR35 is always recommended however, it’s important to get it right. We’re witnessing organisations ‘white-wash’ contractors with a PAYE brush declaring, ‘become an employee or we’ll sever your contract’.

It’s a misconception to believe contractors contract solely for money. While it’s a driver for many, the goal-focused nature of contracts, the variety of work and autonomy of life are far greater pulls. Force a contractor to become an employee and you’ll likely see a mass exodus, as we are already seeing some contractors refusing to work for public sector organisations. The loss of resource is causing multiple projects to stall.

Contractors are fearing this: that it will be too complicated for public sector organisations to determine which contractors fall inside or outside IR35 and so will assume all contractors fall within it. Having to pay higher taxes and NICs, contractors will likely increase their fees to cover the resulting falls in income.

The Financial Reality

Whichever way you look, IR35 inevitably means organisations will face costs relating to resourcing an HMRC investigation, contractor fee increases, IR35 fines or court fees. The best advice? Prepare.

Conduct an audit in advance, communicate it well and re-issue contracts as appropriate. Consider this a project in itself. Appropriate resource is paramount and engage with experts such as Harvey Nash and Kate Cottrell’s company Bauer and Cottrell. Kate is an IR35 adviser, former HMRC employee and co-founder of the company. http://www.bauerandcottrell.co.uk/

On preparing for the potential changes to IR35 in April 2017 Kate commented, “It is essential for all those affected to have an accurate understanding of the IR35 rules and to manage the impacts on their own businesses. The current lack of information available, as to how these new rules will work in practice, may make planning for them seem like an impossible task but everyone needs to do something now.”

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