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IR35 Regulations - am I self-employed?

Your status as self-employed is determined by the working relationship between you and the client.

IR35 Regulations are designed to prevent what is known as disguised employment. Disguised employment occurs when someone works for a company as a contractor through another intermediary company, but, due to the nature of their working relationship, they could be considered an employee.

Working this way could, in theory, enable the worker and employer to avoid some of the tax and National Insurance that would be paid if an employment relationship existed. IR35 is in place to prevent this from happening.

Under IR35, any contractor that would be legally considered an employee of their client if not for the involvement of the intermediary is taxed as if they were an employee.

IR35 applies to intermediary companies that cannot be classed as managed service companies. A managed service company is defined as one that is promoted by a scheme provider, and that the worker does not exercise control over (although they are a shareholder).

Where these managed service company rules are not applicable, IR35 applies when a contractor provides a service to a client through a service company and the aforementioned condition of employment is satisfied.

How is employment status worked out?

There are no fixed conditions to determine whether or not you should be an employee, but there are a number of tests which can contribute to establishing your true status. Three of the most significant tests are the Control test, the Substitution test, and the Mutuality of Obligation test.

Control test

This test refers to how much control the client has over the contractor.

If the client has a high degree of control over what work they do, how they do it and when, then IR35 will likely apply.  One examples of control would be stipulating that they work fixed hours in their office, including specific lunch or break times, subjecting the contractor to disciplinary procedures and general workplace polices and rules.

If the contractor can choose their own hours and work where and how they please, as long as they complete the tasks required, they would not generally fulfil the conditions to pass this test.

Substitution test

A contractor should be allowed to provide a substitute to the client to take over their work – if they can’t, this may not pass the test.

If a contractor cannot supply a substitute and is personally obliged to carry out the work, IR35 will likely apply.

Mutuality of Obligation test

Mutuality of obligation, as the name suggests, is linked to what obligations the contractor and the client have to each other.

A clear example of mutual obligation would be if the client was expected to offer the contractor regular work, and the contractor was obliged to accept it.

This can vary based on how much each party is obliged to do – for example, if the client has the power to stop the contractor working for other clients, this would likely be considered too much obligation for a normal client-contractor relationship.

There are many other factors which can come into play with regards to IR35, including how the contractor is paid, what equipment they are required to use and who provides this equipment, and even any previous rulings on IR35 that HMRC has made regarding the client’s dealings.

If you find yourself unsure if you would be considered an employee in the absence of the service company, you can use HMRC’s employment status tool.

What sort of contractors are likely to be affected by IR35?

IR35 legislation is not targeted at any one business sector in particular, but HMRC has identified the following professions as more likely to be affected by the regulations:

  • medical staff
  • chief executives of large PLCs
  • teachers
  • legal and accountancy staff
  • construction industry workers
  • IT contractors
  • engineering contractors
  • clerical workers

IR35 Investigations

Contractors are responsible for determining whether their activities fall under IR35, but if HMRC suspects a contractor of non-compliance with the IR35 rules, they may investigate them. HMRC has published guidance to help contractors understand whether they might be investigated for IR35 compliance, which can be found here.

Operating through an umbrella company

Umbrella companies have become a popular means by which to operate for contractors since IR35 was introduced. An umbrella company acts as an employer to a contractor who has been given a fixed-term assignment, usually through a recruitment agency. It is common for recruitment agencies to have a preferred umbrella company which it is sometimes compulsory to sign up with.

By using an umbrella company, a freelancer can delegate to them many of the administrative tasks to do with their employment, such as payroll and tax. The umbrella company will naturally demand a fee for doing so. The umbrella company will usually also provide a number of different types of insurance for this fee.

In this type of arrangement, the client for whom the contractor is working will make their payment to the umbrella company, which will make deductions for tax and social benefits before paying a salary to the contractor.

When working through an umbrella company, a contractor will be classed as an employee of that company, conversely to when a limited company is set up. Doing the latter would allow the contractor to take advantage of tax benefits by avoiding employee status, however since many limited companies now fall within IR35, using umbrella companies has become a another option. By default, all umbrella companies also fall inside IR35, but may be preferable to running a limited company and trying to avoid it.

The contractor can relieve him/herself of most administrative duties with the exception submitting a time sheet to the umbrella company, thus leaving him/her free to concentrate on the job in hand. This is the main advantage of using an umbrella company.

As an employee of an umbrella company you should enjoy some of the statutory requirements of a worker, such as holiday entitlement, National Minimum Wage and rest breaks.

Potential disadvantages of umbrella companies include a delay in receiving payment as money has to pass through a third party. Contractors wanting quick access to money may become frustrated when they find it tied up in their umbrella company.