IR35: background to assessment
Please note: this article does not provide legal advice.
This article is part of a suite - a whirlwind tour to get up to speed on IR35:
- Background to assessment. HMRC's intent, guidance, CEST tool - plus legal cases.
- Making employment status decisions. The big picture on employment status decisions.
- HMRC examples - Alan and Jemima. Quite simple, no CEST.
- Examples - Chenguang and Kaye. Two examples, including using CEST.
- CEST criticisms and responses. CEST can be helpful, despite the criticisms.
- Gaming the system and pressure. HMRC are targeting these.
Background to assessment
In just over a month the UK’s IR35 legislation will be fully implemented, encompassing all but the smallest hirers of contractors and consultants (from now, simply contractors or workersand).
Despite the private sector having had a year’s postponement - and having had pointers from the public sector reforms introduced in 2017 - some companies seem less confident and comfortable than you would hope. Others appear brash in their dealings.
IR35 heuristics for the many
For the sort of work I typically engage in the IR35 position seems simple.
- The work generally requires a significant level of expertise - actuarial and beyond.
- Given that, not much control is required by the client.
- The "mutuality of obligation" and "part and parcel" points are "no brainers".
- I am clearly in business on my own account.
- CEST says that 1-4 above are good enough to be outside IR35.
- Substitution rights are a nice-to-have addition.
Perhaps similar logic applies to you as a hirer? As someone said to me: "If not, why not?"
This article is based on conversations with clients, contractors and online research, including a detailed reading of HMRC guidance. It has five sections:
-  What HRMC is trying to achieve.
-  Why this new regime makes sense.
-  Four important legal decisions going against HMRC.
-  HMRC has supplied useful guidance and a CEST tool.
-  Despite rumours to the contrary, the CEST decisions are not unhelpful.
 What HMRC is trying to achieve with the latest reform
Members of the UK workforce generally fall under three main categories:
- Employees. An employee of a business/organisation has full employment rights and obligations including holiday/sick pay. This category also includes the ‘employees’ of umbrella companies.
- Workers. These have some rights, but not a complete set like employees. Although the rights they have are limited, they do have the right to holiday pay.
- Self-employed. These includes freelancers, contractors and sole trader business owners. Basically, anyone who works for themselves and likely by themselves (with some exceptions).
HMRC have no issue with contractors genuinely positioned in (3):
Individuals who operate their own business structure and do not work in the same way as an employee, for example they:
continue to be outside of the scope of the off-payroll working rules.
- have their own business premises
- employ other workers or
- work for a wide range of clients
Source: Important facts for contractors - off-payroll working rules
But HMRC contends that far too many are in (3) when they should be in (1):
Unfortunately, non-compliance with the off-payroll working rules is widespread and is forecast to cost the Exchequer over £1.3 billion a year by 2023-24 if not addressed. This is not sustainable. It denies the taxpayer significant revenue for essential public services and perpetuates an unfairness between two individuals working in the same way, but paying different levels of tax.
Source: Review of changes to the off-payroll working rules report
Despite HMRC’s aims and views, many high profile decisions are going against HMRC.
 Why this new regime makes sense
Perhaps the only real change to the IR35 regime is to transfer the tax liability from the contractor to the hirer. Why might this make sense?
Consider what happened elsewhere in the regulation of financial services. It is now quite hard to be an independent financial adviser running entirely on your own; the regulatory requirements are much more easily handled by a central team.
Increasing regulatory compliance and rising back office costs have prompted many industry players to reconsider the way they run their businesses. As a result, there has been a surge in advice firms of all sizes joining networks.
Source: International adviser - why join an ifa network?
An easier life for the regulator
In the financial adviser example the regulator can focus on less than 100 firms - the networks - rather than more than 10,000 small firms and individual advisers.
The same thing applies for HMRC and IR35 - it makes sense.
FreelanceUK summarizes its views in two bullets:
Where workers provide services through a PSC, but are genuinely in business on their own account, there should be no change.
It is clear from legal challenges that HMRC would like to catch individuals such as TV presenters. But the “own account” point - examined below - seems central to decisions against HMRC.
Where the position is not clear, or where the worker is treated as self-employed with none of the benefits of employment (sick pay, employment protection etc.) but, in reality, does a job very similar to that of an employee, they may be caught by the new rules and receive payments net of PAYE and NIC.
This suggests that a contractor with a long term contract with a single client may be vulnerable, especially where they are not supplying genuine expertise. Not only is blatant gaming ruled out, but full time interim positions are probably caught. That seems fair to me!
 News: IR35 legal decisions still going against HMRC
Here are four cases involving one person limited companies - what HMRC call personal services companies (PSCs). Legal decisions have emphasized aspects downplayed by HMRC and its CEST tool.
Perhaps not surprisingly, these cases were not the clearest one might encounter. Nonetheless the decisions usually went against HMRC. Many “outside IR35” decisions are more straightforward.
Many find the legislation complicated to understand. Even HMRC seems to struggle – its record on fighting IR35 cases at tribunal is patchy.
Source: IR35 guide for the self employed
Again, HMRC will have chosen to fight favourable cases.
- Mar 2018. MDCM Ltd: A test of control
- requirement for personal services and lack of financial risk pointed towards employment
- nor could a substitute be provided
- a flat rate per day with no notice period were inconsistent with employment
- as was the lack of entitlement to any employee benefits
- and the need to pay own travel, hotel and other expenses with no other financial risks
- contractor was not treated as an employee and was not integrated
- Mar 2019. Lorraine Kelly wins £1.2m IR35 Case
- there was a requirement for personal service (very limited substitute)
- mutuality of obligation was present
- control over the services lay largely with Ms Kelly
- she was was in business on own account (other contracts)
- the first two were pointers to employment, but the others overcame them
- Mar 2020. RALC Consulting and IT consultant wins IR35 case against HMRC “army of lawyers”
- HMRC mutuality of obligation argument narrow and flawed
- not enough to say multiple contracts with the same client
- fettered right of substitution
- small amount of financial risk crystallized
- Feb 2021. HMRC loses appeal against Kaye Adams
- BBC contract was long running: one year rolling contracts
- mutual obligation and control were not decisive
- day rate for a minimum of 160 programmes
- ran the “ebb and flow” or “feast and famine” risk
- presenter was able to (and did) take on other contracts
- she was in business on her own account
HMRC view versus legal assessment
In the MDCM Ltd case HMRC argued that control by STL was the most important factor and that it was not a question as to whether control was actually exercised, but the right of control that was important - the reverse of their usual contract versus practice point.
The FTT note that there was not complete control, but more importantly it make an assessment in the round: "the overall effect of the detail" - an in the round assessment.
The decision went against HMRC and, given the various factors not acting in the same direction, this seems to suggest that the "inside IR35" hurdle is quite high.
The "in the round" point also clearly applied to the Adams and Kelly cases.
But not everything goes against HMRC.
In 2019 Christa Ackroyd lost her IR35 appeal Two factors were mentioned:
- The BBC ultimately had the right to specify what services CAM would provide. That doesn’t seem too damaging as that’s essentially a specification of services.
- Her contract restricted her from providing services to other organisations without the BBC’s consent. This was presumably an important factor. There may have been others reinforcing it.
A throwback to 1968:
Ready mixed concrete (1968) pre-dates IR35 but is regarded as a seminal for employment status. Still used today e.g. in the Kaye Adams case, it highlighted the importance of:
- Mutuality of obligations
- Other contract terms e.g. financial risk
Since then other factors such as "part and parcel" and "business on own account" have also been recognized as being important.
 Good news: clarity, guidance, risk management and focus
We cover below six important areas in which HMRC offers guidance:
- HMRC’s “Check employment status for tax” (CEST) tool - Use it last.
- CEST guidance covers 5 important areas you should know about.
- Blanket decisions are not allowed. Grouped decisions are limited.
- Reasonable care now has guidance and examples.
- Old HMRC IR35 examples reveal HMRC’s thinking beyond Alan and Jemima.
- Important facts for contractors - off-payroll working rules
For the keen there is also the HMRC internal employment status manual. In more detail:
HMRC’s “Check employment status for tax” (CEST) tool was first supplied in 2017. It is flawed, but includes 5 of the 6 most important areas for determining employment status. Use it last.
CEST guidance is helpful and should be used independently of CEST, as a backup to your thinking and training. After an introductory “office holder” question to confirm directly whether a contractor holds a role in your organization, the guidance covers five main areas:
- Personal service and substitution. Can the contractor sub-contract?
- Control. For example, who decides where and how the work is done?
- Financial risk. e.g. might the contractor have to put things right at his own expense.
- Part and parcel. Is the contractor treated like an employee in obvious ways?
- Business on own account. Can and does the contractor carry out other contracts?
Blanket decisions are not allowed. Grouped decisions are limited:
Your client must take reasonable care when making a decision about whether the off-payroll working rules apply.
Applying a decision to a group of off-payroll workers with the same role, working practices and contractual terms may be permissible in some circumstances, but it is not right to rule all engagements to be inside or outside of the rules irrespective of the contractual terms and actual working arrangements.
Source: Important facts for contractors - off-payroll working rules
- deciding every contractor is inside IR35 because it simplifies life is not permitted
- neither is deciding every contractor is outside IR35 to attract good people
Blanket decisions and (seemingly!) outsourcing the requirement to pay the NICs and tax is the only example of not talking reasonable care given in HMRC’s reasonable care guidance.
Reasonable care now has guidance and examples.
- What reasonable care means depends on the size of the organization.
- But all need to carry out a complete and thorough determination …
- … and maintain sufficient records to justify the decision.
- Not taking care includes blanket decisions combined with outsourcing PAYE.
- Failing to take reasonable care means any tax liability remains with the hirer.
- For “outside IR35” decisions this works in the obvious way.
- For “inside IR35” decisions this might mean the tax is paid twice.
If the client has not taken reasonable care, the responsibility for the deduction of tax and NICs and payment of apprenticeship levy and paying these to HMRC is the client’s.
This is the case even if another party has already made deductions in line with the original determination.
Source: employment status manual - reasonable care
Examples of taking reasonable care include:
- Applying and recording the employment status principles accurately.
- Completing the CEST tool accurately.
- Involving someone who understands the work in the determination process.
- Making the determination using a trained and sufficiently knowledgeable person.
HMRC IR35 examples include the simple Alan and Jemima but also examples from 2015, which reveal HMRC’s thinking in more detail. HMRC say the twelve business entity tests (BETs) won’t now be taken into account when HMRC opens an IR35 enquiry, but you may find them useful.
HMRC's thinking revealed
HMRC's twelve business entity tests were withdrawn in 2015, but unlike the Alan and Jemima example below explain HMRC's thinking. These more realistic examples are worth reading.
Important facts for contractors - off-payroll working rules covers (e.g.) reasonable care and blanket decisions and right of appeal against a status decision from a contractor perspective. There is an odd scenario in which a status decision is disputed, but, rather than passing on the contract, the contractor pays the tax and successfully reclaims it from HMRC.
Perhaps more helpful is that CEST can provide common ground:
If you disagree with the status determination by your client, you can dispute the decision with them. If you want to check your status determination, you can use the Check Employment Status for Tax (CEST) tool to help you.
Source: Contractor flowchart: off-payroll working rules (PDF)
 Surprise: CEST decisions are not unhelpful
Software providers and legal advisors are often strongly critical of CEST. Its certainly a flawed tool, but one might think about any vested interests. My thinking on CEST is that:
- CEST does leave out some “real world” important factors.
- CEST can give too much weight to a single answer.
- Neither are necessarily bad news in terms of decisions.
- Decisions do not seem to tend towards “inside” IR35.
- A genuine contractor should have no issue in securing “outside” status.
- The “outside” case should be stronger than information required by CEST.
No one should start with CEST or use its outputs blindly or as a substitute for thought. Flawed CEST inputs won’t help. You can assess employment status by thinking about the:
- role / work. That requirement goes into the contract scope.
- contractor. What is their normal business model? Does it fit the work?
- mechanics. How will the work be carried out? What are the parties’ rights and responsibilities?
Aside: part of building expertise is knowing, in advance, that there are 6 important factors you need to consider: mutuality of obligation, part and parcel, business on own account, financial risk, control and substitution. Making status decisions examines the role and importance of each and also what happens if your assessment and CEST disagree.
- The employment status decision flows logically from the points above.
- The contract should be consistent and reflect reality.
Then you use CEST to (probably!) confirm your employment status decision. If the two results are the same there’s an obvious route to a status determination statement. For any HMRC challenge your decision should be reinforced by a court.
Decisions made by CEST are not unhelpful. Any contractor should know what the key areas of concern are - and will have set up his business and working practices to reflect this. That means that a genuinely non-employed contract assessed by a competent contractor with the CEST tool should return an "outside IR35" result with room to spare. A contractor can only benefit.