IR35 Personal Service Companies
The ‘IR35’ rules are designed to prevent the avoidance of tax and national insurance contributions (NICs) through the use of personal service companies and partnerships.
The rules do not stop individuals selling their services through their own personal companies but seek to remove any tax advantages of doing so.
The tax advantages mainly arise by extracting the net taxable profits of the company by way of dividend. This avoids any national insurance contributions (NICs) which would generally have been due if that profit had been extracted by way of salary or bonus.
The intention of the rules is to tax most of the income of the company as if it were salary of the person doing the work.
Who is affected?
The IR35 rules apply if, had the individual sold his/her services directly rather than through a company he/she would have been classed (by HMRC) as employed rather than self-employed.
For example, an individual operating through a personal service company but with only one customer for whom he/she effectively works full-time is likely to be caught by the rules. On the other hand, an individual providing similar services to many customers is much less likely to be affected.
Employment or self-employment?
One of the major issues under the rules is to establish whether particular relationships or contracts are caught by IR35.
All of the factors must be considered, but overall it is the intention and reality of the relationship that matters.
HMRC consider the following to decide whether a contract is caught under the rules:
- Mutuality of obligation - does the customer offer work and the worker accept it as an ongoing arrangement?
- Control - does the customer control tasks undertaken/hours worked etc?
- Equipment - does the customer provide all of the necessary equipment?
- Substitution- can the individual send a substitute to do the work?
- Financial risk - does the company bear any financial risk?
- Basis of payment - is the company paid a fixed sum for a particular job?
- Benefits - is the individual entitled to sick pay, holiday pay, expenses etc?
- Intention - have the customer and the worker agreed there is no intention of an employment relationship?
- Personal factors - does the individual work for a number of different customers and the company obtains new work in a business-like way?
How the rules work
The company operates PAYE & NICs on actual payments of salary to the individual during the year in the normal way.
If, at the end of the tax year - ie 5 April, the individual’s salary from the company, including benefits in kind, amounts to less than the company’s income from all of the contracts to which the rules apply, then the difference (net of allowable expenses) is deemed to have been paid to the individual as salary on 5 April and PAYE/NICs are due.
- normal employment expenses (eg travel)
- certain capital allowances
- employer pension contributions
- employers’ NICs - both actually paid and due on any deemed salary
- 5% of the gross income to cover all other expenses.
Where salary is deemed in this way:
- appropriate deductions are allowed in arriving at corporation tax profits and
- no further tax/NICs are due if the individual subsequently withdraws the money from the company in a HMRC approved manner.
Pension contributions - payments made by your company into a personal pension plan will reduce the deemed payment. This can be useful as the employer’s NICs will be saved in addition to PAYE and employee’s NICs.
Where a personal service company fails to deduct and account for PAYE/NICs due under the rules, the normal penalty provisions apply. If the company fails to pay, it is possible for the tax and NICs due to be collected from the individual under existing PAYE and NIC legislation.
In the public sector:
- The decision of whether to apply the IR35 rules is made by the public sector body, agency or third party paying them.
- The public sector engager or agency is treated as an employer for the purposes of tax and Class 1 NICs (including employer NICs) and the amount paid to the worker’s intermediary will be deemed to be a payment of employment income to that worker.
- The 5% allowance used by the worker’s intermediary for certain business expenses is removed for those contracts with the public sector.
The government is consulting on how to tackle non-compliance with the IR35 rules in the private sector and a possible step is to extend these public sector rules to the private sector.
We can advise as to the best course of action in your own particular circumstances. If IR35 does apply we can help with the necessary record keeping and calculations.