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Understanding the changes to off payroll working: IR35 what the new rules mean

Understanding the changes to off payroll working: IR35 what the new rules mean

Off payroll working rules, commonly referred to as IR35, are changing from 6th April 2021, but what does this mean for you?

What is IR35?

The IR35 rules originally aimed to ensure that contractors doing work for companies, and the companies themselves, paid the correct level of tax. They also sought to restrict tax avoidance through "disguised employment". This is where a worker supplies services to an end user client via a Personal Services Company (PSC) or another intermediary. In other words, contractors offer work to clients by setting up a PSC. The client engages the PSC, which then pays the contractor. Broadly speaking, this is a legitimate way of working, but HMRC believes there are thousands of workers employed via PSCs who have not been paying tax correctly and should pay the same amount as fully employed workers.

Reasons for the change

A fully employed basic-rate taxpayer pays 20% on income above the personal allowance up to £50,000 (rising to £50,270 in 2021/22). And 12% in National Insurance (NI) on earnings between £9,500 and £50,000 in 2020/21, (£9,568 - £50,270 in 2021/22). Plus 2% on any earnings over and above those figures. Employers also contribute 13.8% in NI payments above the £9,500 threshold for each employee on their payroll.

If a self-employer contractor operates within their own limited company, they employ themselves and can therefore minimise their income enabling them to completely avoid, or significantly reduce the amount of income tax and NI they pay. Topping up their salary with dividends which are taxed at a lower rate.

HMRC has estimated that non-compliance will cost more than £1.3bn a year by 2023/24 if the issue is not addressed. A review in 2020 by the Treasury found compliance to be exceptionally low, and consequently tax avoidance was commonplace.

What will change on 6th April?

The changes place further limits on the autonomy of a contractor to determine their own tax status and firmly places the onus on medium and large companies within the private sector for deciding whether the IR35 rules apply. If a contractor provides services to a small private sector client, their intermediary will determine whether the rules apply.

The IR35 rule changes will not be applied retrospectively and only apply to work carried out on or after 6th April 2021.

Who could be affected by IR35 changes?

There are three primary groups in the private sector likely to be affected by the IR35 changes:

  • Around 170,000 individuals supplying services through an intermediary, such as a PSC, without which they would be considered as fully employed
  • Approximately 60,000 medium and large private sector companies (with 50 employees or more), which hire contractors through PSCs
  • Up to 20,000 recruitment agencies and other intermediaries supplying contractors via PSCs.

Potential impact of the changes

Companies may find it a challenge to recruit contractors as being caught inside IR35 significantly diminishes their earning potential. Figures show that being assessed inside IR35 can reduce their net income by as much as 25%, meaning this type of employment is likely to lose its appeal. Companies will either need to increase contractor fees to incorporate the recent changes or onboard them as short-term employees.

Sectors such as IT and media, will particularly notice a difference as these industries have a greater need for long-term contractors. This may lead to a diminished pool of applicants and a skills shortage, meaning companies will have to find alternative ways to attract talented contractors.

More information

Please contact our employment team here if you require advice on the new IR35 rules or on any other employment matter.
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