What exactly is IR35?

Julian Sansum clarifies the main aim of the tax legislation, and what it means for organisations and workers

IR35 sounds more like a particularly laborious form that needs filling out. Or perhaps even a robot. It is in fact one of the most significant pieces of tax legislation in not-so-recent history. 

The IR35 was announced by the Inland Revenue (now HMRC) in 1999. The announcement was the revenue’s 35th press release of the year, hence it became known as IR35. The aim of the legislation was to tackle the disparity in the amount of tax paid by people providing their services through an intermediary (usually a personal service company (PSC)) – also known as off-payroll workers – and those who were employed directly. 

Providing services via a PSC meant that the worker was free to extract income in more tax-efficient forms, such as dividends, rather than a salary that would be taxed under PAYE and also be subject to national insurance contributions (NIC). The IR35 ensures that where the worker would legally have been an employee were it not for the use of the PSC, then the income from the work would be subject to PAYE and NIC, which would need to be operated by the PSC. 

Fast forward to April 2017, and new rules were introduced for off-payroll workers in the public sector that meant the organisation that took on the workers providing services via a PSC or other intermediary was now responsible for deducting the appropriate tax and NI from payments where the worker would have been regarded as an employee if they had provided services directly.

Many local authorities and other public service providers have therefore started to deduct tax and NI from these off-payroll workers. Several public sector bodies are taking a conservative approach to determining whether or not a worker would have been regarded as an employee, meaning an overnight increase in tax costs for many workers.

Looking at the case of a doctor, who can choose to work for a public (NHS) or private hospital, the NHS hospital may take the view that the doctor would have been an employee if their services were not provided through a PSC. If the doctor chooses to work at the private hospital, this decision remains with the PSC, which may take a different view to the NHS hospital, resulting in different tax and NI payments.

The obvious question now seems to be when will the differences in the IR35 rules between the public and private sector be ironed out? It seems almost inevitable. Last year Mel Stride, financial secretary to the Treasury, was quoted as saying there was “an issue of fairness” at stake. This was followed by an announcement in the autumn budget that in 2018 the government will consult on how to tackle the abuse of intermediaries legislation in the private sector. A formal announcement that the IR35 legislation will be applicable to the private sector may come as early as spring next year. 

Although the anomalous situation would be perceived as unfair by many, the contractor workforce is a key component of the UK’s flexible labour market. Given the changing nature of work and the ongoing response to Matthew Taylor’s review of modern working practices, it’s right that businesses are being given the opportunity to feed into the consultation and ensure the flexible labour market is not jeopardised.

Julian Sansum is an employment partner at PwC