How to show you have the right to substitution as a contractor
With IR35 reforms rolling out into the private sector come April 2021, now is the time for you to look at your contracts and working practices to ensure you won’t be unfairly caught inside the legislation.
Under the updated legislation, you no longer declare your own status. Rather, your end client produces a Status Determination Statement (SDS) to declare your IR35 status for that particular engagement and tax liability passes to your fee payer. If you are found inside IR35, you will be taxed at source through PAYE just like an employee, but with none of the benefits of actually being an employee such as sick pay or annual leave. You can read all the ins and outs of IR35 in the private sector in our in-depth feature.
What is Personal Service?
The best way to ensure you are found outside IR35 is to ensure your working practices and contracts show that to be the case. This means sizing yourself up against the three major status tests used by HMRC to assess IR35 status. In short, you need to make it so your end client has no reason to find you inside IR35. These three status tests are Control (do you have control over your own work for a client?), Mutuality of Obligation (or MOO: is your client obliged to keep offering you work, and are you obliged to agree to it?), and the test we’re looking at here: Personal Service.
Personal Service – also known as the Right to Substitution – refers to a clause in your contract which states that if you are unable to do the work yourself for whatever reason, you have the unfettered right to provide someone else to do it instead without needing any permission or clearance from your client. In simple terms, if you found yourself with a broken toilet at home, you wouldn’t care if Bill the plumber, Gary the plumber, or Laura the plumber came to fix it, as long as they did the job well. This is the same principle.
Of course, you don’t have to exercise your right to substitution in order to possess it. Here are some ways you can help to demonstrate that right:
- You should make sure that your contracts state you have the right and how this would work in practice;
- You should ensure your contracts name your PSC rather than you as an individual to make clear your clients are paying for a service, rather than for you;
- You should check working practices such as attending “job interviews” in order to secure a contract since a genuine contractor relationship should be a B2B relationship rather than an employer/employee one.
How does Personal Service apply to me?
You might be reading this thinking “Well, how am I meant to send a substitute? I’m the only person in my limited company.” The great thing is, that doesn’t matter. If you were to send a substitute, they don’t have to be an “employee” of yours, they could be another contractor from your network, for instance.
So, say you’re an IT contractor who books in a one-off contract with a client. However, an opportunity comes up with a second client during that period that you don’t want to pass up as there is the potential for more work with them in the future. You could send in a substitute to the first client for the days you are unavailable while you begin work with the second client.
Or, imagine you are working on a contract but are called up for jury duty slap bang in the middle of the engagement. Right to substitution means you could send in an alternative contractor to keep things going for you while you carry out your civic duties.
There are lots of theoretical scenarios when you might need to send in a substitute to carry out the work, and they never even have to come to pass. It just needs to be understood that should you need to, then you could, though it’s important to remember that they need to be paid for their services through your limited company and not by your client.
Does right to substitution automatically place me outside IR35?
On its own, right to substitution won’t necessarily place you outside IR35, but it’s a strong indicator and, combined with other factors it can demonstrate that you are categorically not an employee and therefore outside IR35.
For right to substitution clauses to fulfil this purpose, there are some things you need to remember:
- Your client has to agree to it so you can tighten the arrangements by having your client sign or initial the clause in your contract, or obtaining separate written confirmation;
- You need to pay your substitute as a sub-contractor (or employee). They cannot be paid directly by your client instead of you;
- You are the one who needs to choose the substitute, otherwise it could be argued they’re a new contractor, rather than a substitute;
- You should retain the right to engage a substitute at any time and for any reason – not just when you’re unable to carry out the work.
This can all be seen in action in the recent high-profile case of Lorraine Kelly. While much of the press focussed on Kelly’s assertion that her chatty TV persona is an act that she performs, there were other aspects of her defence, including that of right to substitution. Although Kelly was seen as delivering a Personal Service (after all, she is the only one who can perform as Lorraine Kelly), it was pointed out that substitutes had been used to replace her on various occasions such as during her holidays. Her defence argued that she was instrumental in selecting these substitutes and so combined with other indicators of self-employment, it was clear that she was not, in fact, an employee.
Whether you’re a TV celebrity or a software engineer, fool proofing your IR35 status is something you need to begin now so that it’s ready for April 2021. If you want an expert eye casting over your contracts to determine your status, you should take a look at our IR35 Protect insurance packages. The Standard and Premium packages include IR35 Status Reviews from our panel, which will help you communicate effectively with your end client. IR35 Protect also covers you (or whoever holds liability) taxes, interest and penalties from HMRC, as well as a variety of legal expenses. Call us on 01242 808740 to discuss with our team.