HMRC and IR35 – Does CEST Even Matter?

Contractors up and down the country are keeping a close eye on the latest IR35 developments. Not least because April 2020 will see IR35 enter its controversial second phase, where it rolls out across the private sector.

Unfortunately, HMRC aren't quashing any worries for those affected. And there’s plenty of confusion in the mix too. Most notably thanks to the recent in court clashes over HMRC’s 'Check Employment Status for Tax' (CEST) tool in the RALC Consulting Ltd vs HMRC tribunal case.

Despite launching CEST to much fanfare, it’s been alleged that HMRC have now gone back on their word to honour its results, thus invalidating CEST as a tool. Read on as we break this all down, and get to the bones of what exactly IR35 is, how CEST works and whether any of it matters…

What is IR35?

IR35 is the short name used for the ‘intermediaries legislation’. It’s the set of tax rules that apply should you work for a client through an intermediary, which is how many contractors operate. The intermediary can be either a personal service company or a limited company.

This is something that’s actually been in force since 1999. However, over the years it’s been heavily criticised by tax experts and professionals in the business community. They claim that it’s been badly implemented. This is because it can cause a lot of unnecessary hardships both financially and otherwise for genuine small businesses.

Currently, if you’re caught within the legislation then you should expect to start paying around 25% more in tax every year. It’s therefore best that you make sure that none of this applies to you.

The issues with IR35

Despite its bad press, the IR35 rules were originally put in place to stop a very real tax avoidance problem and not to target hard-working contractors as many claim today.

Back in 1999, the UK was suffering from a very real tax avoidance problem called ‘false self-employment. This was where self-employed workers were really employees (in all but name), but were made to go self-employed so that both the employer and former employee could pay less tax. This not only gave a tax advantage to those doing the employing (by wiping out employers national insurance), but also those who are employed (by lowering their income tax). As you can imagine, this had some pretty damaging effects on tax revenues.

However, in recent times IR35 as evolved from a legitimate attack on tax avoidance to a controversial attack on the tax benefits enjoyed by those workers taking a risk and starting out on their own.

Many would argue that IR35 is no longer about saving the government money but in fact about making the government money.

What is CEST, and what can it mean for you as a contractor?

Prior to 2017, IR35 based its decision on the contents of written contracts. But from April 2017, for the public sector alone, deciding whether a contractor was inside or outside of IR35 shifted to focus on the reality of the job role, adding emphasis on the client when it comes to compliance.

As a result of government pressure on its own departments, en-mass huge swathes of public sector contractors were considered to be inside IR35.

Of course this decision was controversial, and as such HMRC addressed the choice from the start with the launch of it’s own guidance as to IR35.

To simplify things HMRC made its CEST tool available to contractors and agencies, to allow them to check their employment status. However, from the outset CEST has been heavily criticised. Most complaints focus on the inflexible nature of the tool, failing to take into account a contractors circumstances when making a decision.

HMRC have previously said that they would stand by the results of CEST in tax hearings. But now, that might not be the case. In fact in the recent RALC Consulting Ltd vs HMRC tribunal case, HMRC argued that the results of CEST were in fact incorrect, and despite CEST deciding that the contractor was outside of IR35, the contractor was indeed caught.

Because of this, it’s advised that you review your situation yourself in addition to taking the test. But for you to do that, you’ve got to understand what CEST is.

The tool itself looks at the following three things when evaluating your working practices:

Control

How much control does your client have over when and how you do your work? How about what specific work you do? A contractor should be completely free to work as they choose. But if this isn’t the case and your client is requiring you to work in a team, manage (or be managed), book in holidays or wear a uniform, then you’re most likely going to be considered as violating IR35.

Substitution

Can you send anyone to fulfil your contact? Unlike employees, contractors are able to send anyone who’s qualified to do the role if you’re unable.

Mutuality of Obligation

If there’s no work to do, then as a contractor your client is under no obligation to source more work for you. If you’re an employee this is not the case as they must find you work, and you must accept it.

What does all this mean for contractors?

Unfortunately, this doesn’t hold much good news for contractors. HMRC’s latest legal activity proves that little certainty can be attached to a CEST assessment that deems your work practices ‘outside IR35’.

This means that you’re going to have to be more aware of IR35 than ever before. Make sure that you are absolutely not within the IR35 legislation and ensure that you have concrete evidence to back these claims up.

From April 2020, regardless of whether you work in the public or private sector, your end client will be able to inform you as to whether you’re IR35 compliant. If you’re caught, you’ll have no choice but to process your payroll through PAYE.

It is still possible for your accountant to do this for you through your own limited company, but this will come at a cost that’s usually prohibitive. It ‘s therefore generally accepted that it’s less cost and much easier for those caught by IR35 to utilise the services of an umbrella company to process their payroll.

IR35 and umbrella companies

So, what if you’re a contractor that works through an umbrella company? Is IR35 something you need to keep an eye on?

While many providers claim to be an “IR35 compliant umbrella company”, it’s not a legitimate claim. This is a marketing ruse companies use to target potential clients who are unsure of their personal IR35 compliance.

There is no such thing as an IR35 compliant umbrella, because put simply it’s the contractor that is IR35 compliant or not.

The reality is that for those caught by IR35, because an umbrella company processes its payroll through PAYE, they will pay their taxes in line with the IR35 requirements by joining an umbrella. Essentially, this makes a contractors IR35 status irrelevant.

Umbrella companies also offer the statutory benefits that any standard employee should get, including insurances and many also offer additional benefits in return for their processing fee.

Some would therefore argue that IR35 penalises contractors for being self-employed, making them pay taxes as if they were employed, but without the statutory benefits employees enjoy (leaving them more out of pocket), so picking an umbrella with a good benefits package can soften the blow of IR35.

Comparing umbrella companies

Many contractors choose umbrella companies for this reason alone. It allows them to avoid the complications and risks of IR35. If you want to do the same, Umbrella Supermarket can help.

Our site allows contractors to compare the very best umbrella companies online in just 2 minutes. Give it a go and thank us later!

 

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