IR35 is a term used to denote
United Kingdomtax legislation designed to tax "disguised employment" at a rate similar to employment. In this context, "disguised employees" means workers who receive payments from a client via an intermediary and whose relationship with their client is such that had they been paid directly they would be employees of the client. Before IR35 was introduced workers who owned their own companies were allowed to receive payments from clients direct to the company and to use the company revenue as would any small company. Company profits could be distributed as dividends, which are not subject to National Insurancepayments. Workers could also save tax by splitting ownership of the company with family members in order to place income in lower tax bands. (This latter practice came under separate, ultimately unsuccessful attack in 2007, see S660A.)
Background and contents
In 1999, as part of that year’s Budget, the UK’s
Chancellor of the Exchequer, Gordon Brown, announced that measures would be introduced to counter tax avoidance by the use of so-called personal service companies. Properly known as the “intermediaries legislation”, it is more commonly referred to by the number of the [http://www.hmrc.gov.uk/ir35/ir35.htm press release] in which it was announced, IR35. It came into force throughout the UK in April 2000. Although it was part of that year's Finance Act and was not law at the start of the Financial Year, the Act backdated its commencement to April 6th 2000. The legislation has been consolidated in the Income Tax (Earnings and Pensions) Act 2003 and in the Statutory InstrumentSocial Security Contributions (Intermediaries) Regulations 2000, SI 2000/727.
Historically, it had been advantageous for the owners of a small company to take all of their wages in one month, thereby only incurring NI contributions once (up to the monthly ceiling) instead of suffering that burden every month. This ploy had been circumvented some years prior to the introduction of IR35 by imposing NI on the "total" annual income of directors as if it were spread over the year, even if only paid by one payment. The increased usage of dividend payments instead of wages was partly a reaction to this change. An additional sense of grievance felt by those who were driven to incorporate, for whatever reason, was the large disparity between the National Insurance burden on companies and employees (>20% if the employer's contribution is included) and that imposed on the self-employed.
The stated aim of the measure was to prevent workers from setting up limited companies via which they would work effectively as
employees, but saving on tax. The so-called “Friday to Monday” scenario, that it was possible for a worker to leave a job on Friday and return on Monday to be doing the same work for the same company, but, as a contractor via their own limited company paying a lot less tax, was cited in the [http://www.hmrc.gov.uk/ir35/ir35.htm press release] as the anomaly being corrected. In such a scenario, HM Revenue and Customswould be allowed to “look through” the contractual arrangement between the worker’s company and the client company and to formulate a “hypothetical contract” which showed that the worker was a “disguised employee”. The fee paid to the worker’s company would then be taxed as a salary. Normal employment status rules should be applied when considering IR35 status and the view of HM Revenue and Customscan be successfully challenged. "See also:" Umbrella company
The main arguments adduced in favour of IR35 are [IR35: Press Release dated 9 March 1999 from HMRC] [Press Release dated 23 September 1999 by the Chancellor] [Press Release 14/00 from HMRC] :
* There are clearly cases of Friday to Monday which are obviously tax dodges.
* That it is unfair that two workers performing the same tasks should be taxed differently, when there is no real difference between their circumstances.
* That the lower taxation applied to large companies should not be available to small companies, which are in reality one person as income earner (and perhaps a wife/husband handling the paperwork).
IR35 has been bitterly criticised. The main criticisms are [Details of Criticisms: An Introduction to IR35 and PCG Policy Briefing from the PCG http://www.pcg.org.uk/cms/index.php?option=com_content&task=section&id=27&Itemid=98] :
* Its complexity its harmful impact on many small companies which exist for reasons other than tax avoidance or evasion. These include many companies owned by IT professionals, who often have many short-term contracts rather than one steady employment.
* That its effects extend far beyond the Friday to Monday scenario envisaged in the original press release.
* That it is unclear whether IR35 applies to an individual contract or not, and the Revenue will not give an opinion until the contract has been signed. As their ruling can imply significant extra taxation, this means that payment negotiations have to be made in ignorance of the taxation costs involved.
* That it is unjust that workers in small family businesses should be taxed as if they were employed by their clients, yet not receive any of the legal, state and other benefits received by "normal" employees.
It is hard to judge the effectiveness of the legislation. The Revenue do not publish any figures. The
Professional Contractors Groupclaims 1462 wins to 6 losses in appeals for IR35 and S660A together [ [http://www.pcg.org.uk/cms/index.php?option=com_frontpage&Itemid=1 Professional Contractors Group - Home ] ] , however this only applies to its own members and may not be typical of the wider picture.
* [http://www.hmrc.gov.uk/ir35/help.htm HMRC (British government) IR35 Site]
* [http://www.pcg.org.uk/cms/index.php Professional Contractors Group]
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