Contractors in the Public Sector – IR35

private-sector-public-sector-600x330Important changes are afoot from April 2017 if you are a contractor undertaking work for public sector clients.  And if caught out by them, you could face higher tax bills than you may be used to.

The background

It’s all to do with IR35 and HM Treasury’s attempts to try to enforce rules which they believe are being ignored by many workers, operating under their own limited company.

The rules have always said that, if your relationship with your end client is effectively one of direct employment (were you to strip away any intermediaries such as your own limited company or an agency), then you are expected to deduct PAYE and NICs from your earnings as if you were employed.  In practice this means not taking funds as dividends but as salary on which full employment taxes are paid.

Contractors have largely ignored these regulations and until now, HMRC has found it hard to challenge this.  We have, however, always alerted our contractor clients to the importance of ensuring that in their day-to-day relationships with their clients, they do not come within the scope of IR35 (or if they do, that they recognise the fact and make the required PAYE payments).

So what is about to change?

The regulations of IR35 are not changing; but the responsibility for who decides whether a contract falls within IR35 is changing.  BUT for the moment, it is just for contracts where the end client is a public sector body (note that many Quangos are caught by this definition and please also note that you need to look right up the chain, through agencies and other intermediaries to the ultimate bill-payer).  Of course the worry is that in future this could be extended to private sector clients also, but that is not the case at present.

Instead of the worker making the call as to whether he / she is caught by IR35 and determining any PAYE that might need paying, from April 2017 it will be either the end client, or any agency that will decide.  If they decide that your contract is caught by IR35, they will deduct PAYE / NICs from your weekly / monthly invoice or timesheet before remitting the remainder to your limited company.

The result is that your limited company’s revenue will be lower (less corporation tax to pay?) but clearly the scope for taking dividends will be reduced also.  Also this will result in a reduction in flexibility in managing your own finances, the timings of your remuneration and ultimately your tax planning.

What Next?

The results of the government’s consultation on implementation of these proposals are still not out; I was hoping for something in the Autumn statement, but nothing.  This is cutting it very fine for affected parties, including the agencies who may have to implement any payroll deductions, to assess contracts and to inform contractors affected.  It is also unclear as to how in practice any “payrolling” of contractors might work, or how contractors might appeal any decision if they do not agree.

In the absence of any clarification, perhaps if you do have the choice, it might be advisable to avoid public sector contracts, or at least increase your asking rate to mitigate any potential financial pain that results from these measures.