Intermediaries Legislation or IR35, as it is widely known, was first introduced as a legislation by the Finance Act 2000 (Sch 12) in April 2000. Later, this was included in chapter 8 under Part 2 of the Income Tax (Earnings and Pensions) Act 2003 when tax law rewrite committee compiled the Act. IR35 was originally introduced to fight what the Government saw as a growing problem of contractors using personal service companies to avoid payment of tax and national insurance contributions. The law, with all the complexity associated with, seeks to ensure that contractors pay PAYE tax and national insurance contributions, that they would have paid as employees even when they are operating through a limited company.
IR35 has been a source of constant friction between the contracting community and the government, with several cases escalated to tribunals and courts. Whilst the government remained concerned about tax avoidance, the contractors always felt that the legislation stifled entrepreneurship. This forced a rethink on the subject but the government finally decided that the legislation would stay. However, given that there have been fewer IR35 enquiries in the last few years HMRC has now come out with a ‘business entity test’. Basically, it is a self-assessment test for the contractors to self-assure their compliance with the legislation.
The tests comprise broadly 12 areas to build up a picture of how a contractor’s business works and how they provide their services. A risk profile is created based on points scored for each test as follows:
Business premises: If the business owns or rents premises separately from the contractor’s or the end client’s premises 10 points are scored.
PII: If the contractors needs professional indemnity insurance – 2 points.
Efficiency: If the business increased its revenue in the last two years by operating efficiently – 10 poins
Assistance: If the business employs workers that bring in at least 25% of the yearly turnover – 35 points
Advertising: If the business has spent over £1,200 on advertising in the past year (excluding entertainment) -2 points
Previous PAYE: If the contractor was previously employed by the client as an employee – minus 15 points
Business plan: Having a business plan with a regularly updated cash flow forecast with a business bank account, identified by the bank as such and separate from the contractor’s personal account – 1 point.
Repair costs – If the business has to bear the cost of rectifying any mistakes – 4 points.
Client risk: If during the past two years, the business has been unable to recover payment amounting to more than 10% of yearly turnover – 10 points
Billing: If the business invoices the client for work carried out before being paid and negotiates payment terms – 2 points
Right of substitution: if the business has the right to send a substitute in place of the contractor – 2 points
Actual substitution: If the business has actually hired anyone in the last two years to do the work it has taken on -20 points
Whilst IR35 is unlikely to go away in the near future, these tests could provide some guidance to the contractors as to how HMRC profiles risky cases.
