Risks of overreliance on substitution in IR35 status determinations
Published on 26th Oct 2021
Court of Appeal decision confirms right of substitution unlikely to remove personal service element in determining working arrangements
The Court of Appeal's decision in Stuart Delivery Ltd v Augustine follows other recent decisions and further confirms that a right of substitution is unlikely to negate personal service. The existence of a "personal service" element is a key factor in determining whether a particular working arrangement is likely to be seen as akin to employment for IR35 purposes. This case underlines the fact that a right of substitution cannot be relied upon to remove personal service when determining IR35 status. Other factors such as an absence of end user control and evidence of being in business on own account are now more important indicators of self-employment.
This Court of Appeal decision reiterates that if there are any conditions around the ability to provide a substitute (other than conditions to ensure the substitute has the requisite qualifications) this is unlikely to remove any obligation to personally provide services. Essentially, the circumstances under which a right of substitution will remove personal service from a contract are very narrow.
In this case, a courier who had the right to arrange a substitute to cover a delivery (by releasing an unwanted shift back to the app being used to arrange delivery shifts) was not sufficient because the courier was not responsible for choosing and appointing the substitute themselves and remained personally responsible for completing the delivery if a substitute could not be found.
How does this affect IR35 status determinations?
It confirms that in most cases a right to arrange a substitute will not remove personal service. The presence of personal service meant that the courier was a "worker" as defined under the Employment Rights Act; "workers" will usually be "employees" or "agency workers" for tax purposes unless they genuinely work without end user supervision, direction or control. Certainly, anyone who has been determined as working under an arrangement which falls inside IR35, would almost certainly be an "employee" for tax purposes even if they were engaged as a worker under a zero hours contract.
The test to be considered under IR35 is whether or not a person is an employee for tax purposes. HMRC has long considered there to be mutuality of obligations during assignments and the courts have now further confirmed that substitution rights are unlikely to remove personal service. Therefore the key factors to consider in any IR35 status assessment are whether or not there is end user control and whether contractors are in business on their own account.
For an arrangement to operate outside IR35:
- There should be no end user control over how and when the work is done.
- The PSC should be taking on normal business costs and risks such as cost of insurance and obligation to rectify or re-do unsatisfactory work at their own cost.
A right of substitution is likely to carry very little weight in any appeal to a tax tribunal of a tax liability. It remains important to limit mutuality of obligation beyond the end of an assignment so it is still advisable to time limit assignments and avoid extending or re-appointing the same contractors over extended periods of time.
Contracted out services
Supplies made on a deliverables basis, sometimes referred to as Statement of Work (SOW), can, if operated properly, place the arrangement outside IR35 but reliance on such arrangements should treated with caution: simply re-badging what is, in fact, the supply of a contractor or consultant as SOW, will not necessarily place the supply outside IR35.
HMRC has noticed an increase in what it considers arrangements "labelled" as contracted out which are not, and over the summer published a warning and further guidance which can be found here.
This is an important point for end users who may have decided not to do IR35 status determinations (SDS) on SOW supplies on the assumption that they operate outside IR35. If an end user has not done an SDS and there is an IR35-related tax assessment, the end user will be liable.
End users are advised to check SOW supplies to ensure that:
- The contract is for a scoped deliverable with payment linked to the deliverable: not time spent.
- The SOW does not rely on anyone's personal service.
- The service provider is not owned by the consultants providing the services – if it is then it is likely that it will be an "intermediary" for IR35 purposes.
We have provided workshops on IR35 and the alternative engagement models to over 200 clients in the last two years to help suppliers and end users work out which options and contract models are viable based on their workforce engagement requirements and will help manage risk best. Please get in touch with your usual Osborne Clarke contact or one of the experts below if you would like to arrange one of these workshops, if you have any queries or would like to discuss further.