Danny Batey, Senior Tax Consultant at Markel Tax, answers some of the most frequently asked questions he sees from agencies related to IR35.
The off-payroll legislation has now been in place across both the public and private sectors since 6 April 2021. It brought with it new responsibilities for medium and large-sized end clients which engage contractors via their own Personal Service Companies (PSCs), and agencies that form part of the contractual chain.
After nearly two years, you may expect that those affected by the legislation would have a firm grasp of what the rules entail and be able to confidently meet their responsibilities. However, many end clients and agencies have found the legislation to be complex, administratively time-consuming, as well as costly to implement.
Agencies are typically the first port of call for IR35 advice and guidance from their end client customers seeking due diligence assurance in order to meet the end client’s ‘reasonable care’ requirements.
However, many agencies do not have the in-house expertise to handle such end client requests, as the off-payroll rules are far removed from their business-as-usual activity as they focus on technical tax legislation.
Here, Danny Batey, Senior Tax Consultant at Markel Tax, answers some of the most frequently asked questions he sees from agencies related to IR35.
We are a ‘small’ agency, are we exempt from the off-payroll rules?
The ‘small’ company exemption relates only to the business size of the end-client engager of PSCs, not the agency. Therefore, your agency must meet its responsibilities under the off-payroll rules regardless of its company size.
What are our responsibilities as a ‘fee-payer’?
As the party which pays the PSC, your responsibility will depend upon the end client’s IR35 decision relating to the individual contractor.
If the end client provides a Status Determination Statement (SDS) that supports an ‘outside’ IR35 opinion, then you can pay the PSC gross without deductions. However, if the SDS supports an ‘inside’ IR35 opinion, then as the fee payer you are required to deduct tax, Employees’ NICs and pay Employers’ NICs and, if appropriate, the Apprenticeship Levy to HMRC.
It should also be noted that where HMRC can successfully challenge an ‘outside’ SDS as being ‘inside’ IR35, and despite the SDS being incorrect, the end client can demonstrate that it has taken reasonable care in their decision-making, you as the fee-payer will become the liable party in the first instance.
Why does an agency have the liability as fee payer, when it is the end client that has made an incorrect determination?
On the face of it, this does seem unfair: one party making a decision, but another having the liability. However, there is a ‘tax logic’ to this.
As noted above, the party closest to the contractor’s company has the responsibility of being the deemed employer where an engagement is ‘inside’ IR35. Then the deemed employer must put the contractor’s company onto their payroll – as you would an employee – and make the necessary PAYE deductions (Apprenticeship Levy, if applicable, Employers’ NICs & Employees’ NICs and income tax under PAYE, although statutory deductions like sick pay and SMP are payable by the contractor’s company). Therefore, the agency has the liability as long as the end client has taken care in their decision-making and issued an SDS.
Our end client is a medium/large business but hasn’t undertaken any IR35 assessments or provided any SDSs. What is our risk?
The legislation is clear in such circumstances: where an end-client is medium/large in size, unless based wholly overseas with no UK presence, then they have a responsibility to provide an SDS detailing their IR35 decision to the PSC and the next party in the chain - if yours is the only agency between client and contractor, this makes you the fee payer.
If this has not happened, then the client has not taken ‘reasonable care’, meaning that any potential liability and the requirement to deduct tax and NICs, including the Apprenticeship Levy, if appropriate, rests with the end client, not your agency acting as fee payer.
Our end client has asked us to produce SDSs for their contractors on their behalf. Is this OK?
The short answer is yes. HMRC recognises in its off-payroll guidance that end clients may turn to third parties for assistance in undertaking IR35 assessments and issuing SDSs to their contractors.
However, the end client must satisfy themselves that the third party’s due diligence process meets the legislative requirements, including consideration of contractual terms and conditions, as well as evidence of the working practices from both the end client and the contractor, in order to demonstrate that reasonable care has been taken.
The end client will ultimately remain responsible for the SDSs produced and is expected to have full oversight of the process used.
What does a robust IR35 assessment due diligence process need to do?
To answer that question, we need to look at the legislative requirements – it follows that a process, automated or otherwise, can only be relied upon if it addresses all conditions of the legislation.
The legislation requires that medium/large end clients must:
- Make a Decision. Decide the IR35 position of every engagement by reviewing all contracts/paperwork in the supply chain and working practices.
- Take reasonable care. Evidence that the reasoning behind their decision was reasonable.
- Issue a decision. Provide an SDS to the contractor and the agency (if applicable) and keep records.
- Implement a disagreement process. Create and implement their own process for any contractor disagreement.
Is it advisable to encourage our end clients to use HMRC’s Check of Employment Status for Tax Tool (CEST)?
This will ultimately be for the end client to decide. However, careful consideration should be given to any such decision. Often end clients opt to use CEST based upon cost implications of dealing with large volumes of contractors and having to pay for IR35 assessments, automated or otherwise, by third parties is less attractive than having access to a free service.
However, CEST has repeatedly come under fire for being inadequate and not reflective of current case law. A number of public sector bodies had relied upon CEST to their detriment and were collectively found to owe HMRC approximately £268 million in underpaid tax and NICs.
This strongly suggests that ‘free’ is not always best and can in fact lead to large, unexpected liabilities. Another consideration is that evidence has established that CEST fails to reach an IR35 opinion for one in every five uses, not particularly helpful if you are unable to correctly assess all of your contractor engagements and need an opinion that can be relied upon.
Our end client is based wholly overseas but engaging a UK contractor, who is responsible for IR35?
If your end client is based wholly overseas with no link or permanent establishment in the UK, then responsibility for deciding IR35 rests with the contractor in accordance with the original IR35 legislation at Chapter 8 Part 2 ITEPA 2003.
This answer assumes a basic contractual chain of wholly overseas client > UK based agency > UK PSC. However, in more complex contractual chains, further careful consideration should be given and professional advice sought where necessary.
As the fee payer, what steps can we take to mitigate any potential tax and NIC liabilities?
The first step would be to ensure that your end client has a robust due diligence process for undertaking accurate IR35 assessments and satisfying reasonable care requirements. Having such a process in place should eliminate HMRC imposing penalties.
A further consideration would be to take out an underwritten insurance policy that will not only cover any professional fees incurred in defending your position during an enquiry, but will also pay out any additional tax and NIC assessed by HMRC as being due.
We have a clause in our contracts which allow us to push the liability back to the end client and/or the contractor; surely that is our defence?
You might seek to enforce such a clause, but you need to have four considerations:
- HMRC will nevertheless, recover the tax & NICs from your agency as the liable taxpayer – they will not be interested in any legal action you may wish to take
- You can only take the action once you have paid the tax bill and can therefore demonstrate there has been a loss
- We are not aware that such a claim has been made against either an end client – which HMRC would, presumably, have been deemed by HMRC to have discharged its tax obligations correctly – or a contractor, who under the Chapter 10 legislation, has no liability. Therefore, there is no guarantee such a clause would be enforceable
- Does your agency want a reputation for suing its end clients/contractors?
Surely, it would be far better to have undertaken robust due diligence and then have your own HMRC enquiry defence and tax losses insurance policy, where premiums will reflect your level of compliance and therefore your risk. Your agency is protected; your clients are protected – you become a more reliable business partner.
It is imperative that, where agencies are considered by their end clients as the ‘go to’ for accurate IR35 advice and guidance, they have a firm grasp of the off-payroll legislation to avoid exposing their end clients to unnecessary risk.
Where this may not be the case, an agency having access to IR35 experts with a deep understanding of the legislation and the appropriate experience is essential. This will not only protect their business but also their end clients.
If you have any IR35 or employment status related questions, please do not hesitate to reach out to the Markel Tax Contractor Solutions team at IR35@markel.com.