How does IR35 apply to Small Businesses?
As you may remember IR35 was delayed for the private sector from being implemented due to COVID-19. However, the legislation is going into force from 1st April. Below are the 7 key steps that small business owners need to take – although hopefully, you will stop at step 2!
1. Familiarise yourself with the legislation
This was one of the strongest messages that came out of the public sector’s experience. It is important that small business owners familiarise themselves with the IR35 rules to avoid potential HMRC tax liabilities.
IR35 needs to be considered where there is the supply of a person to a client, via an intermediary, and the person supplied would have employment status, but for the use of the intermediary.
2. Check if your organisation is caught by the new rules
There is an exemption for businesses that are “small”, as defined by the Companies Act 2006 so that the rules apply only to medium-sized and large organisations. To qualify as small, a business must meet two of three qualifying conditions. The three qualifying conditions are:
- an annual turnover of not more than £10.2 million;
- a balance sheet total of not more than £5.1 million; and
- no more than 50 employees.
Assessing the size of your organisation is a measurement that has to take place every tax year, looking back to the previous two financial years of the business. If you exceed at least two of those three qualifying conditions in two consecutive years you are classed as medium-sized or large so that from the beginning of the next tax year you are within the IR35 rules.
3. Undertake an audit of your existing workers
Businesses will need to establish if they pay any PSCs directly or through an agency and carry out a detailed review of each worker’s contract and actual working arrangements to determine employment status. Where a worker would have employment status were it not for the PSC or agency, the worker is “inside IR35”, and deemed to be an employee for tax purposes.
HMRC has an online tool, Check employment status for tax (CEST), to help determine if a worker should be classed as an employee or self-employed.
4. Take a look at HRMC’s CEST
The HMRC encourages the use of CEST when making an employment status determination.
One reason for using it is that HMRC says it will stand by the results given by the tool, provided that the information entered is accurate and it is used in accordance with HMRC guidance.
HMRC is looking to enhance CEST to ensure that it works effectively for organisations before the April 2021 reforms are introduced.
HMRC claims that in 85% of cases CEST provides employment status. However, CEST has been heavily criticised by contractors and businesses for delivering inaccurate decisions about workers’ employment status, and there have been concerns that the results do not tally with tax tribunal decisions.
5. Take a look at the status determination statement
Under the new IR35 rules, once it has determined the worker’s status, the client engaging the worker must provide a status determination statement directly to the worker and to the party the client has contracted with. For the statement to be valid, the client must also provide reasons for the determination.
The status determination statement and reasons must then be passed down by each party in the labour supply chain so that all parties in the chain are aware of the determination. It is unclear whether or not the legislation to bring in the IR35 reforms requires a status determination statement only where the client decides that IR35 does apply, i.e. that the worker would have had employee status had they been engaged directly.
However, the client is liable for income tax and national insurance contributions for the worker until it has provided a statement. Therefore, it is advisable for clients to provide a statement even where they have concluded that IR35 does not apply, in case it is later determined that IR35 does apply.
This is in accordance with government guidance, which states that clients should provide a status determination statement whether or not the determination shows that the off-payroll working rules apply.
6. Put in place a dispute resolution process
The PSC and fee payer must be given an opportunity to appeal the status determination statement where it disagrees with the determination. The client has 45 days from receipt in which to respond to any appeal and a failure to do so could lead to it being assessed as liable for any tax arising from an incorrect determination, even where the statement has been prepared using reasonable care.
The client has to confirm that it is satisfied that the status determination statement is correct, giving its reasons, or withdraw the statement and replace it with a different determination.
HR needs to ensure that there is an internal dispute resolution procedure in place, in accordance with HMRC requirements, to deal with any appeal swiftly. Any staff involved in the appeal process should receive adequate training in dealing with these types of appeal.
7. Consider the impact of the new rules on ongoing projects
Small Businesses need to ensure that managers are aware of the new rules so that they can assess the impact on any ongoing projects, as some contracted workers may decide to leave rather than be brought within the rules.
For instance, IT is one of the sectors where these types of arrangements are very common and businesses may find that they lose contracted workers, deserting vital projects.
To mitigate this risk, some companies have employed contractors through umbrella companies, paying these contractors at higher rates of pay by way of compensation.
In Summary – as long as you qualify for the “small” business exemption you will be glad that for once as a small business you don’t need to comply…yet. It is worth conducting an audit of your workers to see what contracts they are on, mainly for your own peace of mind.
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