As you will be aware, widespread changes to the IR35 rules came into force for the private sector on 6 April and in the past couple of weeks we have been highlighting an important and potentially costly issue which HR needs to be alive to, relating to supply chains. In our programmes: ‘IR35 uncertainty prevails with complex supply chains’ and ‘IR35 and your supply chain – what’s the risk?’ tax specialist Penny Simmons explaining the issue in some detail. We are coming back to this to consider a final question, one that Penny covers in her article for Tax Journal, namely, how do you protect the client, the end-user, in these circumstances? We will come onto that in a moment but first a reminder.
IR35 is shorthand for the tax legislation designed to combat tax avoidance by workers, and the firms hiring them, who are supplying their services to clients via an intermediary, usually a personal service company, but who would be an employee if the intermediary was not used. HMRC deems these workers to be employees and to be taxed accordingly. On 6 April responsibility for that status determination switched to the hirer, the end user, hence why it is crucial to understand what contractors you have on your books and judge accurately whether they fall inside or outside of IR35.
In Tax Journal Penny says: ‘Determining whether a contract for services is outside the scope of IR35 may give rise to difficult and protracted negotiations between the parties, resulting in contractual protections and indemnities safeguarding one party against the risk that HMRC ultimately disagrees with the decision.’ So how does that play out in practice? Penny Simmons explains:
Penny Simmons: “So, the client and the service provider, the business providing services to the client, they're going to have to have some sort of conversation to discuss who they think the client is for IR35 purposes, so who has to bear the risks of IR35 compliance and pay the taxes. Now once they've done that, even if the client, the business receiving the services, doesn't think they are the client for IR35 purposes, and doesn't think that they actually need to meet the IR35 requirements of making the status determinations etcetera, I think it's very important to get the agreement between the parties written down somewhere. So usually, you'd expect to see that in the framework agreement for the services, have it written down that the parties have discussed IR35, have it written down what the parties have agreed in relation to IR35, who is the client who bears the risks of IR35 and who is going to meet the IR35 compliance requirements and tax requirements. Also, to make sure that once you've done that, make sure the client is further protected, so the business receiving those services, even if they're not the client for IR35 purposes, is further protected by having some form of an indemnity so that if the Revenue disagrees with who the client is then the client, the business receiving the services can, if you like, use the indemnity to recover any tax losses and any penalties that they have suffered from the service provider, the provider of those services who the parties felt was the client for IR35 purposes, but the Revenue disagreed.”
Joe Glavina: “What about insurance cover, Penny? That would be a way to address the risk.”
Penny Simmons: “Yes, over the last couple of years in the run up to IR35 coming in into force we’ve seen lots of insurance products come onto the market and, absolutely, both the service provider and the client, the business receiving those services, could take out some form of an insurance product to recover losses that they might suffer in relation to IR35. The thing that I think is really important to remember when you're talking about taking out insurance is, yes, the insurance can cover the financial aspect of this, so it can cover any taxes that needs to be paid, it can cover any penalties, any interest, but what insurance can't do is protect a business against the risk to its reputation if the Revenue opens an investigation saying that you haven't complied with IR35 the way you need to, and also the risk that not only does the Revenue open an investigation into its IR35 compliance, but it opens an investigation into its wider tax compliance and that is not only going to have a financial impact on the business, it could also have a significant reputational impact on the business and that is something that I really would encourage businesses to think about before simply just insuring against the financial risk.”
Joe Glavina: “If that did happen Penny, and the Revenue did open up an investigation, how big a deal would that actually be for the client?”
Penny Simmons: “That’s a very good question and one that is very, very difficult to answer because an HMRC inspection, investigation and audit, it can take many forms and it can be totally different from one case to another. What I would stress is that what starts as an IR35 audit may not finish as an IR35 audit and that itself is something that businesses really need to think about. It's not just about IR35, it’s also about your general relationship with the Revenue and for large businesses it may affect their tax risk rating, which again, is something that businesses will be very concerned about because businesses want to maintain a good relationship with Revenue and a low risk tax rating and an audit into IR35 that reveals significant non-compliance with IR35 could have a significant impact on a business's tax risk rating and also its ongoing relationship with Revenue in relation to a broad spectrum of other taxes.”
Penny’s article in Tax Journal is called ‘IR35: the prevailing uncertainties’. You will need to subscribe to Tax Journal to be able to access the full article but, in case you want to do that, we have put a link to the relevant web page in the transcript of this programme.
- Link to Tax Journal article ‘IR35: the prevailing uncertainties”