What is IR35 Payroll?

IR35 is a set of rules that were introduced by the government to prevent companies from avoiding payroll taxes by incorrectly classifying their contractors as self-employed.

Under IR35, workers who work through an intermediary are ‘deemed employees’ and their end clients must pay corresponding employment taxes on top of their fees.

What is IR35?

IR35 is the legislation that aims to crackdown on the tax avoidance tactics of many contractors who have set up a limited company structure. These people are referred to as ‘deemed employees’, and are subject to income tax and national insurance contributions (NICs).

In the public sector, the hirer or agency who pays you will work out whether you are inside or outside IR35 and deduct these taxes from your pay cheque each month. They also need to inform HMRC if they find you are inside IR35.

In the private sector, larger companies are responsible for working out IR35 status when they employ contractors, and must report their findings to HMRC. Larger companies that engage personal service companies, as well as any supply chain between the two parties will also need to consider IR35.

Defining IR35

If you are a contractor, freelancer or interim working in the private sector, it’s important to know whether you are inside or outside IR35. This will impact your future contractual work and the taxes you pay.

IR35 is a tax rule that was introduced in 2000 to distinguish genuine businesses from ‘disguised employees’. Basically, it’s an anti-tax avoidance rule designed to stop companies from using contractors or freelancers to avoid paying higher rates of income tax and National Insurance Contributions (NICs).

The key factor that determines whether you are inside or outside IR35 is if you have control over your work. This means that you have a say on what, when and where you complete your assignments.

If you are a contractor, you will need to ensure that your contract is clear on this. It should also include a clause that allows you to send someone else in to complete the work if and when required.

Determining IR35 Status

IR35 status is determined using a number of key tests to paint a picture of employment or self-employment. These tests determine whether you are operating like a business providing services to a client, or as a worker who provides services in return for payment.

If you are assessed to be inside IR35 then the fee-payer (usually your end client) must deduct employment taxes and National Insurance Contributions from your earnings before paying them to you, and pay Employer NI on top of this.

In practice, this means that the contractor will be taxed at the same rate as a full employee in the same tax bracket. The company will also be required to make appropriate deductions from the contract income and remit them to HMRC along with the Employer’s NI and Apprenticeship Levy, if applicable.

The best way to ensure you are IR35 compliant is to have professionally drawn up IR35-friendly contracts and have your working practices mirrored in the contract you have with your end client. A well-drafted, professional contract should contain a clause giving you the right to send someone else in your place if your health or safety would be affected by the work being carried out.

Managing IR35

IR35 is one of the most widely discussed anti-avoidance tax legislation in the UK, and the debate over its effects has never been more intense. As of April 2021, businesses classed as a medium or large client are responsible for working out their contractors’ IR35 status and determining who is liable to pay tax on their earnings.

As a result, it is essential to ensure that all parties involved in a contract review each engagement carefully for IR35 status. This includes assessing each written term and also their working practices.

If a contractor is inside IR35, whoever pays them will have to deduct income and NICs from their pay cheques and make sure they report this to HMRC. If a contractor is outside IR35, they will not be liable to pay these taxes, but it is still important that their clients show reasonable care when evaluating the status of each individual contractor.

A client will need to have a ‘Status Determination Statement’ in place for each individual contractor they engage with and the contractor must sign this at the start of each engagement. The SDS must contain all pertinent information on IR35 status and demonstrate the care taken by both parties in determining the IR35 status of each worker.