“IR35” was designed to stop tax avoidance through the use of “intermediaries”. It was designed to apply whenever a contract between the worker and the engager would have been a contract of employment except for the insertion of an intermediary. In these circumstances IR35 steps in to counter any tax savings from that insertion of an intermediary.
The most common form of intermediary is where someone provides their personal service through a limited company. Whilst there are some obvious cases of tax “avoidance” through the use of a company most instances when arrangements may be challenged are less clear. In fact the one certainty about IR35 is that it has added greatly to the uncertainty contained within tax legislation.
In an attempt to reduce this uncertainty HMRC published 12 business entity tests in May 2012. Each test carried a score, and if the total score was less than 10 then they considered that there was a high risk that the arrangements would fall foul of IR35. A score of 20 or above suggests that the risk was low.
The 12 tests are as follows:
- Business premises. Does your business own or rent business premises which are separate both from your home and from the end client’s premises? (10 points)
- Professional indemnity insurance. Do you need it? (2 points)
- Efficiency. Has your business had the opportunity in the last 24 months to increase your business income by working more efficiently? (10 points)
- Assistance. Does your business engage any workers who bring in at least 25% of your yearly turnover? (35 points)
- Advertising. Has your business spent over £1,200 on advertising (excluding entertaining) in the last 12 months? (2 points)
- Previous PAYE. Has the current end client engaged to you on PAYE employment terms within the 12 months ending on the last 31 March, and with no major changes to your working arrangements? (minus 15 points)
- Business plan. Does your business have a business plan with a cash flow forecast which you update regularly and a business bank account separate from your personal account? (1 point).
- Repair at own expense. Would your business have to bear the cost of having to put right any mistakes? (4 points)
- Client risk. Has your business been unable to recover payment for work done in the last 24 months, representing more than 10% of annual turnover? (10 points)
- Billing. Do you invoice for work carried out before being paid and negotiate payment terms? (2 points)
- Right of substitution. Does your business have the right to send a substitute? (2 points)
- Actual substitution. Have you hired anyone in the last 24 months to do the work you have taken on? (20 points)
These tests, however, are only guidance and do not have the force of law. Many people also feel that they fail to address certain fundamental concepts such as mutuality of obligation. Therefore, whilst they may be useful in determining your risk of being challenged they do not indicate whether or not HMRC would be successful in their challenge.
One thing that is certain is that if you supply services rather than goods and operate through a company, then you should certainly consider carrying insurance against the costs of fighting an HMRC challenge under IR35. These costs can amount to many hundreds and even thousands of pounds. We can provide a fee protection policy that offers such protection, and at a very economical rate. Please contact us for further information on this.