On 22 January 2020, HMRC published draft secondary legislation and a technical note dealing with how end users, managed service providers ("MSP"s) and others in the chain above the "fee payer" may be liable for IR35 where the "fee payer(s)" below them in the chain fails to pay IR35 tax (PAYE and NICs) after 6 April. Typically, the fee payer will be the staffing company or consultancy which "paid" the personal service company contractor.
This draft legislation gives HMRC power to pursue end users, MSPs and others where they consider there is no reasonable prospect of recovering the PAYE and NICs from the fee payer within a reasonable time: ultimately they can treat the end user/MSP as the taxpayer of last resort. Where the fee payer has already appealed the relevant HMRC assessment and its appeal has failed, the end user/MSP will have no right to challenge the assessment. There is no "we tried our best" defence for end users and MSPs – it does not matter if they have issued an "outside IR35" determination using reasonable care, or an "inside IR35" determination and believed that the fee payer would deduct the tax.
As HMRC hinted last year, end users and MSPs will need to take care about who they engage contractors through. If, through no fault on the part of the end user or MSP, the fee payer fails to pay the tax (perhaps connected with insolvency), then HMRC can collect it from the end user or MSP. As a consequence, suppliers with less strong balance sheets and compliance systems may not seem so attractive to some end users.
HMRC have also published draft secondary legislation covering the NICs aspects of the new IR35 regime (broadly reflecting the PAYE aspects, which existing draft legislation already covers).
There are errors in the draft legislation and related technical note that would need to be corrected in the final versions, but the fact that it has been issued suggests that HMRC are pressing ahead with implementing the new regime, notwithstanding the current review.
What's happening in the market?
With two months to go, what broad trends are we seeing?
- There is a surprising lack of preparedness at many end users and even at some staffing companies and consultancies. Perhaps the promise of a review of the proposed legislation gave some hope that the IR35 regime may be delayed or even scrapped As things stand, though, that review does not seem likely to delay or substantially change the proposed regime.
- Blanket banning of use of PSCs seems still to be the strategy of some end users. Many observers think this will work for contractors without easily transferable skills. But these end users face a loss of talent in relation to the contractors with hard-to-find skills, many of whom will have key roles in business-critical projects. Not many end users seem prepared to "gross up" payments for those PSC contractors (such that their take-home pay is unaffected by application of employers and employees NICs as well as PAYE after 6 April). As a result we are seeing some contractors start to look for alternative assignments and/or try to restructure their supplies on a consultancy/output basis so as to fall outside IR35.That approach won't work for most contractors, but where it does work it may be a good solution.
- Some end users are also prohibiting the use of umbrellas as an alternative engagement model. This seems, in many cases, to be driven by concerns about over-long supply chains involving entities over which the end users feel they have little visibility. And there is a perception that some umbrellas may expose end users to criminal liability under the Criminal Finances Act, or else may have contingent liabilities relating to historic tax schemes that could put them out of business without warning, leaving workers unpaid and disgruntled. Anyone looking to use umbrellas would be wise to have in place careful CFA checking processes going well beyond the normal checks on accreditation and annual audit. Good umbrellas will be happy to co-operate.
- The use of umbrellas may also start to become more complicated as a result of the Key Information Document rules which will apply to staffing companies from 6 April. This will require staffing companies to provide information to workers on how they will be paid by umbrella companies and how they will be charged. This is likely to be administratively burdensome for staffing companies and in some cases will lead to questions about the deductions (or lack of deductions!) made in respect of workers' pay. It will not be so easy for staffing companies to turn a blind eye to aggressive tax arrangements operated by certain (but by no means all) umbrellas.
- For these reasons, many staffing companies that previously only engaged contractors on a PSC or umbrella basis are now looking at offering their own PAYE offering as an alternative to PSCs (and umbrellas). In some cases there may be collaboration with umbrellas who may have good systems they can licence to relevant staffing companies.
IR35 checking services and insurance: are they a solution?
Some end users and staffing companies are looking at commercially developed IR35 status-checking tools/services as an alternative to CEST. Some tools are more rigorous than others but it is difficult to assess whether these tools can be relied upon to generate the right IR35 determinations: there is currently no standard. The key question for end users is whether by using the tool they are exercising reasonable care, especially in relation to any outside IR35 Status Determination Statement (SDS).
Some checking tools are being marketed as insurance-backed or in some way linked to insurance. We appreciate that intermediaries and end users want reassurance that IR35 status assessments have been done reliably, and of course insurance associated with the assessments could be a good indicator of this. However, there may be some serious risks associated with some of the offerings currently in the market. Some (but not all) proposed checking arrangements (and related insurance arrangements) may be structured in ways which expose end users and intermediary staffing companies to serious risk of tax liability under the Managed Service Companies legislation of 2007. We strongly recommend that anyone looking to use third party assessment services or insurance takes privileged legal advice to ensure the arrangements are structured in a way that does expose them to MSC risk.
The risk with MSC is serious because it is possible for directors of end users and staffing companies to be personally liable for the contractor tax even where the contractor is genuinely outside IR35. For those who have investors (or want to attract investors), investor directors will not want this personal risk, as we have seen in M&A and private equity deals where MSC risk has come up in the last few years. And as we reported last year HMRC may be about to become more enthusiastic in their use of the MSC legislation following their win in the 2019 Christianuyi case, which was the first time the Court of Appeal had looked at the legislation (and confirmed how widely HMRC were entitled to apply it).
|Reminder: The MSC regime effectively allows HMRC to collect PAYE and NICs where an organisation in the business of facilitating the use of PSCs helps the PSCs operate. HMRC can recover this PAYE from the PSC contractor, the "facilitator" and any staffing company or end user who encourages use of the facilitator. MSC only applies where a contractor is outside IR35.|
This is not to say that third party checking arrangements, including ones associated with insurance, have no part to play in helping companies manage IR35 risk. The arrangements will be helpful if structured carefully. The trouble is that if they are structured in the wrong way they may cause more harm than good.
And obviously it is important for anyone relying on insurance in order to allow for the continued provision of PSC contractors on an "outside IR35" basis to realise that where the insurance covers a new risk, it is never completely certain to what extent, when the first claims come in, the insurer will pay out. There are currently so many unknowns in relation to how the regime will operate and its interaction with the MSC regime that insurance should really be seen as a "good to have" rather than the whole solution. There is no substitute for putting in place robust IR35 status assessment processes: this currently appears to be the best way to reduce IR35 risk.