There is a considerable difference in the take home pay between a limited company worker who is caught by IR35, and another who falls outside the IR35 net.
In a nutshell, IR35 (the Intermediaries Legislation) was created in 2000 to clamp down on ‘disguised employment’; to prevent contractors and others who would typically be viewed as ’employed’ by HMRC from being taxed as if they were ‘self-employed’.
For example, a contractor might work for a large consultancy as a permanent employee one day, only to return the following day as a limited company contractor.
The contractor would benefit from the tax advantages of working via a company, despite working in exactly the same way as he did before. According to HMRC, he would be deemed a ‘disguised employee’.
New Off-Payroll rules were introduced in 2017 and 2021, which made clients rather than individuals responsible for determining the employment status of a worker.
If you are a professional contractor who works via your own limited company and your contracts fall outside IR35, you will usually draw down a small salary from your company.
For example, you pay no tax or National Insurance at all on a salary of under £9,100 (2022/23).
In recent years, the tax benefits of working via your own company have shrunk significantly. The dividend tax rate rose significantly in April 2016, and the April 2023 Corporation Tax hike will penalise company owners further.
There are still several tax planning options open to company owners, with aren’t available to employees; such as the ability to divide company shares with a spouse to reduce higher rate tax liabilities, and the opportunity to delay drawing down funds until a future tax year.
It is worth bearing in mind that company owners do not have any of the perks associated with standard employment. The (small) tax advantage they enjoy will often cover the cost of things like insurance, accountancy fees, training, and so on.
On the other hand, if your contracts fall within IR35, you will receive income in the form of a ‘deemed payment‘. You have to pay income tax and national insurance contributions on all relevant earnings.
In addition, people caught by IR35 are granted a 5% expense allowance to cover the costs of running a limited company. They can also claim for standard ‘Section 198’ expenses such as pension contributions and business insurance costs.
Unfortunately, this allowance is not available if you work for a public sector body (from April 2017 onwards), or a private sector organisation (from April 2021 onwards).
All limited company contractors should calculate their Corporation Tax and VAT liabilities in the normal way, regardless of whether they are caught by IR35 or not.
What is the financial impact in real terms?
There is a big difference in the take-home pay of contractors inside and outside IR35.
If you are a contractor earning £400 per day, you will be around £6,500 worse off if your contract work is caught by IR35.
If you’re earning £750 per day, the difference is over £9,500.
These calculations contain various assumptions (e.g. you work for 44 weeks each year).
The difference in net take home pay will decrease from April 2023 when Corporation Tax rates rise.
For obvious reasons, you should always seek professional advice before signing a contract, and ensure that both your contracts and working practices both demonstrate that you fall outside the IR35 net.
For ultimate peace of mind and defence in the event of an IR35 investigation, take out Qdos’ award-winning IR35 insurance – from just £99 per year. This covers up to £50,000 of professional representation and potential tax liabilities up to your chosen level of indemnity.