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IR35 - An Overview for IT Contractors

IR35 first reared its head via an Inland Revenue press release in 1999 entitled: 'IR35: Countering Avoidance in the Provision of Personal Services'.

"The purpose of the new rules is to remove opportunities for the avoidance of tax and Class 1 National Insurance Contributions (NICs) by the use of intermediaries, such as service companies or partnerships, in circumstances where an individual worker would otherwise be an employee of the client or the income would be income from an office held by the worker."

IR35 became law via Schedule 12 of the Finance Act 2000 – its prime aim was to ensure individuals working via limited companies would be subject to the same taxation laws as an individual performing the same task under standard PAYE conditions.

The IR35 rules were invented primarily to stop freelancers (particularly IT contractors) from drawing income in the form of a small salary and large dividends from their limited companies, where ordinarily they would be paid a standard salary for performing the same role if they were not working via their own limited company.

In determining whether a contractor's employment is deemed to be subject to the IR35 rules or not, the Inland Revenue would need to work out if that person, when carrying out that specific contract, is 'employed' or 'self employed' according to the IR35 rules.

A person who worked 9-5 on a client site, had little or no direct responsibility and provided no tools of his own to complete a task would most likely be deemed as 'employed' and therefore subject to the IR35 rules. However, a freelancer who worked from home, performed tasks for multiple clients and used his own equipment to complete the work would more likely be deemed 'self employed' under the rules. The Revenue would look at the overall picture to determine a person's employment status, so the more pointers there are to genuine 'self employment' the better.

The IR35 rules are applied to individual contracts - not to the person performing them. Therefore, a contractor may perform 2 contracts in a given year - one may be subject to IR35, and the other may not.

The Inland Revenue leaflet - 'Employed or Self Employed' has been provided to help people work out if they will be liable to IR35 or not.

If a person's contract falls under the IR35 rules, they will receive most of their income in the form of a deemed payment together with a miserly '5% allowance' to cover intermediary expenses. They will also be able to claim other expenses on top of the 5% allowance, such as insurance cover and pension contributions.

Since the IR35 law came on the scene, many IR35 cases have been disputed, and on the whole the Revenue has found it hard to uphold the new laws. There is a dramatic difference in taxation levels between those caught by IR35 and those not, so if you believe you may be 'employed' as per the IR35 rules, you should seek professional advice and take time to read our additional IR35 articles, including our IR35 Employment Status Overview.

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