By Alison Woods, partner and employment law specialist at law firm CMS
IN just under a year the Government’s IR35 payroll reforms will come into effect in the private sector, putting the responsibility firmly on larger employers for PAYE and NICs in respect of contractors engaged via an intermediary.
The legislative changes, coming into effect in April 2020, will not impact smaller employers, workers that are genuinely self-employed or affect businesses which engage self-employed contractors through a direct agreement.
They will, however, potentially place a significant tax liability on many construction businesses that engage contractors through intermediaries.
The total annual cost increase could run into millions of pounds for larger companies if working arrangements with limited company contractors are maintained as they are. It is therefore essential that affected businesses take steps now to ensure they will be compliant with the new tax regime.
The first step is for companies to audit their contracting arrangements covering all contractors engaged through an intermediary.
The Government’s CEST (Check for Employment Status Test) can help although determining employment status with any certainty does remain legally complex.
An audit should look at whether contractors are engaged under output-focused, short-term contracts, or integrated into the organisation to deliver ongoing, and supervised, services.
Employers can then decide if existing arrangements are sustainable or whether payments to contractors need to be taxed as if employment income.
HMRC will be guided by the reality of the working relationship, and not simply the terms of the written contract.
Where the audit identifies that changes are needed to ensure the contractors are truly seen as self-employed, any changes will need to be more than a “paper exercise”. For example, including a contractual right for the contractor to send another individual in their place will be ignored by HMRC if it is clear that the client wouldn’t accept a substitution.
In reality, amending a contractor’s working practices too significantly might not be commercially or operationally viable.
If IR35 status does apply, a business will need to deduct income tax and employee NICs from fees paid to the intermediary company and also pay employer’s NICs.
Given that many contractors have structured their services with tax savings very much in mind, this move may be resisted and other compliant options may need to be considered including a gross rise in contractor fees for highly valued skills or a move to a managed service or agency provision. There’s also the option of offering to employ contractors directly, resulting in paid holiday, leave, pension contributions and other costs.
A one-size solution is unlikely to work for most construction businesses so a mixture of the above measures have need to be considered in dealing with both with current contractor, and the firm’s future approach.
Building this into budgeting at the right stage will be needed to ensure no nasty surprises.
Once a strategy is determined, discussion should begin as soon as possible with any contractors whose arrangements are intended to change, so as to negotiate required amendments. This may spark a discussion about rate increases and/or employment law rights.
The changes driven by this new regime may in turn require changes to organisational procedures around contractor management.
Clear responsibilities should be assigned among relevant departments to ensure that engagements are entered into on the right basis in future.
Creating an internal code of practice or decision tree could prove invaluable, as might training, to ensure staff understand and can manage risk as well as administering the new arrangements. While the final legislation is yet to be presented, the direction of travel is clear, and the construction industry will be a clear target for compliance checks given its high use of contractor labour.
Preparations should be underway now or businesses may risk the prospect of disputes with HMRC and disruption to their core operations.