IR35 is tax legislation that seeks to prevent ‘disguised employment’ and ensure the correct taxation of those working as contractors. There were later reforms to this legislation known as the off-payroll working rules. These changed the party who was responsible for determining whether an engagement was ‘inside’ or ‘outside’ IR35.
Regardless of which party determines IR35 status based on the rules, it needs to be carried out. This article will act as your ultimate guide to conducting an IR35 assessment, as well as demonstrate just how important it is.
What is an IR35 assessment?
An IR35 assessment is the process of deciding whether an engagement is ‘inside’ or ‘outside’ IR35 – and therefore if a worker is an employee for tax purposes or not. Under the off-payroll working rules, HMRC requires an IR35 status assessment and subsequent Status Determination Statement (SDS) to be issued when a worker is providing their service to an end client through their own intermediary company. This is usually a Personal Service Company (PSC) in the form of a limited company.
Why are IR35 assessments so important?
If an engagement is found to be ‘inside’ IR35, then the worker’s pay will need to be subject to deductions of Income Tax, National Insurance Contributions (NICs), and the apprenticeship levy (if applicable) from their pay. If it’s found to be ‘outside’ IR35, then the worker can operate as self-employed and receive the tax advantages that self-employment has.
End clients and intermediaries need to know the status of the engagement. If they don’t, they risk non-compliance with the IR35 rules and paying the wrong amount of tax. This could lead to detrimental consequences, which we explain further in the next section.
Why IR35 assessments matter
What happens if an IR35 assessment is wrong?
Assessing IR35 is a big deal for all parties involved, even if they’re not the one who needs to determine employment status for tax purposes. An inaccurate assessment would mean that the relevant party will receive a bill for the difference in Income Tax and National Insurance Contributions, which should have previously been paid along with any interest. They may also receive a penalty for up to 100% of the taxable amount.
It’s important to note that an IR35 enquiry could take place, too, which may mean further costs incurred. And the consequences of an incorrect assessment aren’t all monetary either. An enquiry could lead to a damaged professional reputation – whether you’re the worker, end client, or recruitment agency.
Who should concern themselves with employment status assessments?
Every party needs to realise the impact of IR35 assessments as it concerns them all. For instance, the worker or end client could be responsible for determining status, depending on whether the new off-payroll working rules or the IR35 rules apply.
Before 2017, it had always been the contractor who assessed an engagement for IR35 status. These rules were known as IR35 or the ‘Chapter 8 rules’. In April 2017, the IR35 rules changed in the public sector, instead placing the responsibility for determining employment status for tax purposes with the end client instead of the worker. HMRC extended these to the private sector in April 2021, meaning end-client businesses would now need to determine the status where the rules applied too.
However, there are exceptions in the private sector. If the end client is a ‘small business’ (as defined by s382 of the Companies Act 2006) or based wholly overseas, then the worker is still responsible for determining their own status.
These ‘Chapter 10’ rules also introduced the concept of the fee payer. They’re the party in the supply chain who sits closest to the worker’s intermediary and also makes payment. For direct engagements, the fee payer is the end client. Otherwise, it will typically be a recruitment agency sitting above and/or between the worker and the end client.
As a result, recruitment agencies should also concern themselves with the IR35 assessment as they could be the fee payer. They may also need to pass on a Status Determination Statement – we’ll cover these later in this blog.
How to perform an IR35 assessment: a step-by-step guide for workers
If the Chapter 8 rules apply, then it’s the worker who needs to assess the engagement’s status. This will require them to consider their contract and the working reality of how they carry out their work. It’s recommended that workers still think about these things and are aware of the assessment process even if the Chapter 10 rules apply.
To help, we’ve provided step-by-step guidance for workers on how to carry out IR35 status assessments below. If you’re an end client, you can use this to help workers who need to determine their own status. Or, if the off-payroll working rules apply, you can access guidance in this piece.
1. Understand IR35 and the off-payroll working rules
First, contractors should understand what IR35 and the off-payroll working rules are. You can find HMRC guidance through its employment status manual. The ‘determining status’ section is particularly useful here.
It’s key to know what a Status Determination Statement (SDS) is too. Essentially, it’s a document produced by the end client for each engagement. It outlines the decision on status and the rationale behind it. An SDS is only required where the off-payroll reforms apply.
There are many other resources out there you can use to learn more about the topic. We recommend checking out the IR35 news area on our website.
2. Gather contracts and assess financial risk
The worker should have visibility over their contracts and working arrangements. Any time there is a change in arrangements, they will need to carry out a new assessment. This should be the case even if the business involved is the same.
Workers should also be aware of what ‘inside’ and ‘outside’ IR35 both mean. An ‘inside’ determination will make an engagement less tax-efficient, meaning that their annual turnover would be lower than if the engagement was ‘outside’ IR35 and they became self-employed for tax purposes.
Regardless of the status, it needs to be correct. Otherwise, there may be an enquiry and financial repercussions.
To avoid these repercussions, it’s recommended to keep an audit trail. This documentation will act as a strong line of defence if HMRC queries the status of the engagement.
3. Choose an IR35 assessment tool
There are many tools out there to help you assess IR35 status, including HMRC’s Check Employment Status For Tax (CEST) tool. However, this tool has proven to be controversial. It doesn’t provide a determination in more than 22% of cases or test for mutuality of obligation (MOO).
An update to HMRC’s CEST tool – known as CEST 2.0, which has moved to a new platform called OCELOT – has been announced. This will make improvements, such as additional flexibility and better determination explanations. Yet it’s key to note that it still doesn’t test for MOO.
That’s why we recommend using alternative tools which do, such as the Kingsbridge Status Tool. It’s unique to others out there in that the service isn’t entirely automated. If our tool finds that an engagement’s status is borderline, it’s passed to our in-house IR35 and off-payroll working rules experts for a manual review. This adds the necessary human touch and expertise that’s required to trust the determination.
The Kingsbridge Status Tool asks between 29 and 34 yes/no questions, obtaining a rounded view of the worker’s contract and working practices. This triggers an ‘inside’ or ‘outside’ IR35 determination and a detailed report to back up the decision. Our Head of Tax, Andy Vessey, who has successfully defended against more than 550 HMRC IR35 enquiries, designed the tool.
When to consult an expert for employment status assessment
What if an IR35 assessment isn’t clear-cut?
Contractors and fee-payers can appeal an SDS whether the result is ‘inside’ or ‘outside’ IR35. End clients must have an appeal process for them to follow, as well as respond to the appeal within 45 days. As part of this process, we strongly recommend making it clear why the determination is disputable – backing up this argument with evidence relating to key factors such as the right of substitution, MOO, and control.
Following the appeal, the business will either agree (and the worker will receive a new SDS) or they’ll disagree and provide the rationale behind why they’re upholding the determination. They should provide this in a written format for record-keeping purposes and if there’s ever an enquiry related to the off-payroll working rules.
When should professional advice be sought?
As you can see, sometimes professional advice is crucial to figuring out status. Yet even in cases with a determined status, we believe it’s best to seek specialist help. This will provide more assurance, and reduce the chance of getting it wrong and facing a subsequent enquiry.
Pro tips for a smooth IR35 status assessment
To help stay compliant, get an engagement assessed not just on a contract-by-contract basis and when there’s a change, but if there’s a shift in working practices too.
We also recommend that workers seek a contract review by a professional, alongside a check of their practices. This is to make sure that these reflect those outlined in the contract.
Carry out assessments as and when things change as they can potentially alter whether an engagement is ‘inside’ or ‘outside’ IR35.
Get support with IR35 assessments
IR35 assessments are necessary to comply with the legislation, as well as have assurance over employment status for tax purposes. It’s crucial to be proactive with this to avoid any negative repercussions and ensure full peace of mind for the entire supply chain.
If you need any expert advice, you can reach out to our team of specialists here at Kingsbridge. You can also read through several resources related to IR35 assessments and the off-payroll working rules should you decide you need further information, such as the Kingsbridge Annual Whitepaper 2023.