Tax advisors and employers may already be familiar with the UK’s intermediaries’ legislation (commonly known as ‘IR35’). Introduced in 2000, it was to ensure that any contractor working through a Personal Service Company (“PSC”) or other intermediary accounted for PAYE/NIC if they were deemed to be a disguised employee. However, HMRC have estimated that whilst 33% of PSCs should operate PAYE, currently only 3% actually do.

HMRC have lacked the resources needed to police compliance in this area and as a consequence it has come as no surprise that they would seek to look at the issue once again. All this in the context of a HMRC estimate that £1.3bn per annum was being lost to the exchequer.

The first major change came in 2017 and applies to arrangements involving the public sector only. Those changes are being extended to the private sector from April 2020.

Importantly, the case law tests used to determine employment status still apply as before, despite HMRC suggesting that they may be reviewed and a statutory test introduced.

April 2017 – public sector reform

The 2017 reform transferred the responsibility of determining the employee status from the contractor, engaged via a PSC or intermediary, to the end user (i.e. the public sector body).

In addition, the reform also saw the fee payer becoming responsible for deducting PAYE and national insurance contributions (“NICs”) and sending HMRC information about the payments using Real Time Information (“RTI”). In many cases the fee payer was a private sector company or agency supplying workers to the public sector body.

The UK government has suggested that these changes have proved successful and an additional £550 million in income tax and NIC has been raised since their introduction.1 It was therefore not surprising when HMRC announced that they would be extending the reform to the private sector.

April 2020 – extension to the private sector

Despite predictions that reforms to IR35 in the private sector might be delayed until the uncertainty of Brexit had passed, the government published draft legislation as part of the draft Finance Bill 2019–20 clauses issued on 11 July 2019. This confirmed that the rules for off-payroll working will be reformed largely in line with the public sector from 6 April 2020 and will have effect for contracts entered into, or payments made, on or after this date.

They will apply to medium and large sized private sector end users only. Small companies are exempt, which is defined as meeting two of the following conditions:

• Turnover not more than £10.2 million
• Balance sheet not more than £5.1 million
• Employees not more than 50

Importantly, the extension to the private sector is not intended to impact those parties in an agreement, who are providing services under a statement of work. The provision of workers to an end user in the course of completing an agreed scope of work is auxiliary and therefore not subject to the IR35 employment status determinations. That said, all such contracts should be reviewed to ensure that they do not inadvertently fall foul of the rules.

What is required?

End users must:

• decide the employment status of each worker contracted through a PSC or an intermediary;
• pass that decision and the reasons for it to the worker and the person or organisation contracted with;
• keep records of those decisions and fees paid;
• have processes in place to deal with any disputes; and
• respond to any disagreements received from the contractor within 45 days

A HMRC technical consultation had previously been published in May 2019 to address the concerns raised on the proposal to enforce the reform to the private sector. Among these key concerns were how preparations could be made by the end users for April 2020 to enable them to meet the new requirements; what tools HMRC could provide to assist with these preparations; and how any potential determination disagreements would be resolved. Many of these concerns have yet to be fully addressed by HMRC.

Preparing for April 2020

Many readers may already be familiar with HMRC’s current employment status tool, ‘CEST’. It was introduced in March 2017 to assist the public-sector end users determine the employment status of contractors, a determination that many had never previously been responsible for. However, some have suggested CEST is inadequate and in some cases producing results which contradict employment case law or even HMRC’s own determinations.

In response, HMRC advised that enhancements to the CEST tool would be delivered before the reform was implemented. As the enhancements are yet to be released and April 2020 is fast approaching, it is disappointing that end users will likely not be able to test drive the improved CEST. It is reminiscent of the original roll-out of CEST a month prior to the public-sector reform, which was cited for the rush of many end users making incorrect blanket determinations.

HMRC published guidance on 22 August to clarify the reform, however the guidance still does not clarify how the new statutory client-led status disagreement process will work, a key area of the reform that many end users wish to better understand. HMRC have made it clear that they will not be setting up an independent body to deal with disputes and therefore the question remains how a disagreement between an end user and contractor may be settled fairly without input from a third-party.

Not worth the risk

For some, the April 2020 reform may result in a change of their business model. For end users whose current model relies heavily on a contractor workforce, the additional costs that will be incurred to remain compliant may prove too great. So, what is the alternative?

One answer is to simply stop engaging with the contractor workforce. End users that frequently engage contractors to complete projects may revert to solely operating through an employee workforce and therefore removing the risk of any additional responsibilities that the reform may bring.

However, this model is unlikely to work for sectors such as IT and construction where work is often project-based. Having an entirely employee workforce may not be cost effective in scenarios where staff resource could often outweigh chargeable hours in quieter periods.

For end users who will retain a contractor workforce, there are a number of options available post April 2020.

• The end user may choose to continue engaging a contractor workforce, ensuring that the correct contractual and working practises are in place to ensure that the relationship is not deemed to be one of employment.
• If the relationship between the end user and contractor is deemed to one of employment and therefore PAYE and NIC are applicable, the end user may simply choose to bear the additional employer NIC and associated administration costs.

The end user may choose to take this one step further and absorb all additional costs to the contractor, ensuring the contractor is no worse off than when they were engaged under the PSC. This option may increase the end users cost significantly as the amounts required to make good the net payment to the contractor would require consideration to be given to the additional costs of employee NIC. The end user may also choose to pass the employer NIC liability to the contractor through a reduction of contractor’s fees. However, this relies on the contractor agreeing to the reduced rates.

One answer to mitigating these risks is to continue engaging with a contractor workforce through a third-party agency. HMRC have confirmed that whilst the reform puts the responsibility of applying PAYE on the fee payer, this may not be the same as the end user in the supply chain.

However, it is important to note that engaging with agencies does not mitigate the risk entirely for the end user. HMRC have advised that in any case where there is non-compliance, HMRC will seek to recover any liabilities further along the supply chain if they are unable to recover directly from the agency. Therefore, an end user who engages contractors through an agency acting as the fee payer could find themselves liable to tax further down the line.

Importantly it will still fall on the end user to make the determination and pass this onto the fee payer.

More to come

The government has announced it expects the April 2020 reform to impact 170,000 individuals working through their own companies, who would be employed if engaged directly. The administration required for businesses to adapt to their new responsibilities is expected to cause headaches in the run up to April 2020, especially with the promised guidance and support from HMRC failing to address in full some of the key concerns.

The next step for private sector end users is to ensure that they have identified their PSC and intermediary population. They will then need to begin the process of determining their status.

Whilst HMRC have CEST available to help determine employment status, EY and others have developed their own software tools to assist end users in making the correct determinations prior to April 2020.

Additionally, end users will need to review their workforce post April 2020 as the nature of relationships may change. Employment status determinations made now may not be relevant in another six months. An ongoing effort will be required for the end users to ensure that they remain consistent with their approach to these new responsibilities and that no blanket approaches are adopted in the months and years to come.

Vincent Adams is Senior Manager with EY.

vadams@uk.ey.com

1 ‘Off-payroll working rules from April 2020 – summary of responses’ published by HMRC 11 July 2019 https://assets.publishing.service.gov.uk/government/uploads/system/uploads/attachment_data/file/822204/Off-payroll_working_rules_consultation_summary_of_responses.pdf?_ga=2.173300774.483521598.1566550414-366021185.1521215963