Directors of contractor limited companies must be aware of their responsibilities to HMRC and Companies House. In this guide, we cover:
IR35 legislation, sometimes called “intermediary legislation” or “off-payroll working legislation”, is a series of tests that HMRC applies to the nature of the working relationship between a client and a contractor using a limited company (sometimes called a personal service company).
There is no IR35 for dummies – it’s a complicated set of rules open to interpretation. It’s so complicated that even HMRC often get the interpretation of the rules wrong. In fact HMRC lose many of the cases they bring to the First Tier Tax Tribunal against contractors.
Historically contractors working through a limited company have paid considerably less tax than an employee doing the same type of work. The contractor isn’t the only one that gets a tax benefit by engaging a contractor. Because the contractor isn’t an employee, a client also does not have to pay National Insurance Employers’ Contributions on their fee.
With less tax being paid, the UK government sought to introduce IR35 as a way to get those tax revenues back. In essence, the legislation was designed to look at a contractors working practices and ensure that if they acted like an employee then they processed their payroll like an employee too, locking themselves out of the tax benefits they would have traditionally enjoyed.
Now that you know what IR35 is, you might be wondering what ‘’inside IR35’’ means (for public and private sectors). If the relationship between a contractor and a client is like that of an employer and employee in under the IR35 test, this would constitute a “contract inside IR35” arrangement.
In this case, a contractor must treat their entire payment in the Ltd Co as a “deemed salary” – in other words, they would have to pay taxes as if they were an employee on the full amount and not offset expenses or take dividends.
A “contract outside IR35” is a contract with a client which the IR35 rules deems is not similar to an employee-employer relationship. In this instance, the client would pay the value of the invoices issued into the contractor limited company’s account without any deduction for tax. Corporation tax would be paid on the work if the limited company made a profit during the year. The company would then process the salary (often small) through PAYE and pay any taxes due to HRMC directly with the remainder of the funds paid in dividends. The contractor would then pay personal taxes on any dividends withdrawn from the company, summarising the tax due on their self-assessment at the end of the year.
A contractor has a legal responsibility to declare whether the agreement they are working under is inside or outside of the IR35 rules, record it in the appropriate way, and pay the relevant tax.
IR35 applies when some or all of the above conditions apply to the working arrangements between a client and a contractor. Regardless of the governing contract, this situation would be in the scope of IR35. However, if there is sufficient independence as measured by these guidelines, the contract would be outside of IR35.
An “outside IR35” arrangement offers zero hours contract holiday pay and zero hours contract sick pay – in other words, if a contractor does not turn up for work, they won’t be paid.
For contracts carried out for public sector bodies, the responsibility lies with the client to declare IR35 status and not with the contractor. Until April 2020, when the same rule comes in for contracts carried out for medium- and large-sized businesses, the responsibility to accurately declare IR35 is that of the contractor.
For a contract with a client to be considered outside of IR35, the nature of the actual working relationship has to be more like two independent businesses dealing with each other rather than an employer-employee set up. Whereas once contractors pointed to the letter of their contract when arguing their case for being outside of IR35, HMRC will now primarily consider the actual working environment a contractor finds themselves in when deciding on IR35 status.
A contractor should make sure that their working arrangements with their client (codified in their agreement) has most or all of the following features, but also that in practice these are maintained too:
At time of writing, new tax laws for contractors mean that the difference in pay between a limited company contractor working outside IR35 and inside IR35 is significant.
| Contractor take home pay outside IR35 | Contractor take home pay inside IR35 | ||
| Amount | Amount | ||
| Earnings | £65,750 | Earnings | £65,750 |
| Income tax, National Insurance Employee Contributions, and dividend tax | £5,700.83 | Income tax and National Insurance | £15,683.56 |
| Corporation tax | £10,151.17 | Corporation tax | £627.00 |
| Employers’ NIC | £472.79 | Employers’ NIC | £6,551.48 |
| Earnings after tax | £49,425.21 | Earnings after tax | £42,887.96 |
| Additional tax under IR35 | £6,537.25 | ||
Directors of contractor limited companies have certain fiduciary and statutory duties to perform. Failure to perform them correctly leaves a director open to financial, legal, and personal risk.
To fulfil their fiduciary duties, a director must act in good faith and with honesty. They must do what is in the best interests of the company and for the benefit of the company.
For their statutory duties, they must exercise reasonable skills, independent judgement, diligence, and care in their role. They must act within the powers given to them by the Companies Act 2006 and by the company’s Articles. They must avoid conflicts of interest, not accept benefits from third parties which benefit them as opposed to the company, and do everything to promote the success of the company.
To help directors understand their duties, Companies House have produced the following guides – GP2 and GP3.
Every twelve months, a contractor limited company director must file a confirmation statement with Companies House detailing the company’s registered office, their shareholders, their line of business, the amount of share capital that’s been issued, who owns the shares in the business, and the Persons of Significant Control.
A Person of Significant Control (PSC) is a person who owns a quarter or more of the shares and the voting rights. A PSC can appoint or remove the majority of a company’s directors or, in some way, “exercise significant influence or control”.
Any contractor limited company wishing to recruit staff must register first with HMRC. Even if the only person working for a company is the director, the company will still need to register. Within 5 days of application, HMRC will send out a company’s PAYE reference number.
A director or someone with responsibility for payroll must inform HMRC of any new staff member who will need to be paid through PAYE. They will also need to tell HMRC when an employee has left.
Employers are legally obliged to withhold the correct amount income tax and employee’s National Insurance every time they pay a member of staff. They must also inform HRMC that payment has been made via the RTI system (all recent payroll software is RTI compliant).
In addition, if a staff member earns over a certain amount (detailed on this page), 13.8% of that staff members’ wage must be paid in Employer National Insurance. That means that, if a staff member earns £2,000 before tax each month, 13.8% of that £2,000 must be paid on top in Employer National Insurance.
A contractor limited company must hold this money until the 22ndof the following month on which date it must transfer all withheld income tax, Employee National Insurance, and Employer National Insurance to HMRC.
When a business has turned over (or it appears that it will turn over) £85,000 or more in a single year, it must register with HMRC for VAT.
This means that the company now must charge VAT on top of all of its invoices at the applicable rate. An agent can register a contractor limited company for VAT on its behalf or a director of the company can do this themselves by clicking here.
To work out how much VAT is due to HMRC (or vice versa), a company must calculate the value of all the VAT is has charged during the VAT period. This is output VAT. It must then calculate the value of VAT it has paid its suppliers during the same period. This is input VAT. Input VAT is then subtracted from output VAT to determine the amount that must be paid to (or from) HMRC.
Contractor limited companies can choose whether to account for VAT on an accruals basis (when an invoice is issued) or a cash basis (when an invoice is paid) if its turnover is less than £1.35m per annum.
A company may choose to register for VAT if it is not at the threshold to claim its input VAT back.
For contractor limited companies with a turnover of less than £150,000, the VAT flat rate scheme offers a simplified version of accounting for and paying VAT. Invoices are still issued with VAT but, instead of working out input and output VAT, a flat rate percentage of the VAT-inclusive value of an invoice is withheld instead for later payment.
For example, an IT contractor limited company has a flat VAT rate of 14.5%. On an invoice of £1,000 plus VAT totalling £1,200, 14.5% of £1,200 would be held back for payment.
Flat rate VAT contractors can claim input VAT on business purchases of £2,000 including VAT. There is a discount of 1% of the standard flat VAT rate during a contractor limited company’s first year of registration.
If a contracting limited company spends less than 2% of their VAT-inclusive turnover on allowable suppliers (or less than £1,000 if greater than 2% of turnover), the flat rate VAT is 16.5%.
In the vast majority of cases, VAT is payable every quarter. At the end of a quarter, a business has one month and seven days in which to submit their return and make payment in full.
From April 2019, Making Tax Digital replaces the current system. Making Tax Digital requires VAT-registered businesses to keep far more detailed digital records of their VAT transactions. Most online bookkeeping packages are currently being updated to be compatible with the new system.
In this post we cover everything you need to know when appointing an accountant for your Limited company. Appointing an accountant can be a very important part of the process as can Appointing your accountant with HMRC as your “agent”.
It is important to know about the broad range of limited company contractor expenses that can be claimed back. This section covers Capital allowances for contractors, types of expenses you can claim back and Contractor expenses when working away from home.
Bookkeeping software is essential for providing estimates to clients, invoicing, chasing payment, accepting payment, receipt storage, and more. We look at the importance of keeping money aside for tax and slower trading periods, how to separate personal and business finances and keeping business records safe & accessible for inspection by HMRC.
There is a wide variety of ways in which a contractor limited company can market itself including a well-written CV, using a recruitment agency, online job boards, LinkedIn, networking, websites, and email marketing. Marketing gets a contractor in to see an interviewer who will eventually award the job. We look at the mindset of an interviewer, phone interviews, what’s expected at face-to-face interviews, and the increasing frequency of Skype interviews.
Contractor interviews are one of the most important aspects to winning business as a contractor. This resource will inform you for what you need to know about The mind-set of the interviewer, phone and face to face interviews and Skype interviews for contractors.
Insurance is a necessary business expense for contractor limited companies providing protection against a variety of different threats to the business. We discuss employer’s liability insurance, and director’s liability insurance. Also included are if contractor income security insurance and contractor personal accident insurance policies offer value for money.
A contractor limited company pays its own taxes including corporation tax, Employer National Insurance, IS and VAT. There are schemes available from HMRC which allow contractors extra time to pay what they owe when money is tight. In this post we look at the tax burden faced by contractor limited companies.
Contractor limited company directors are required by law to complete a Self Assessment every year. In this post, we look at how to register and when the self assessment submission needs to be made by. We also examine tax bands for contractors, income tax, National Insurance and dividends.
Directors of contractor limited companies have multiple opportunities to efficiently structure how they pay tax. In this post, we consider salary and dividend splits, appointing family members, claiming back expenses from previous years, capital expenditure allowances, tax free savings accounts, special investment schemes, single premium investment bonds, and Members’ Voluntary Liquidations.
