Avoiding IR35 as a contractor

I want to set up on my own business contracting to two or three companies. I really don’t want to get in to IR35 territory.

The area of business is IT and I will be paid by commission on the sales I generate for the companies I do work for. Any advice?

For those not familiar with IR35, essentially it is a tax situation that affects all contractors who do not meet the HM revenue and customs’ definition of ‘self employment’.

You do not say whether your business is a limited company or whether you are a sole trader. The considerations differ. If you are not a limited company (i.e. you are either a sole trader or partnership) the issue is not IR35 but whether your relationship with the two or three companies means that HMRC regards you as “in employment” or “self employed”.

Related: A small business owner’s guide to IR35

There is no legal definition of “employment” so it is necessary to consider the circumstances under which the services are supplied, particularly any “contracts” or other circumstances, for example whether the “worker” has other clients.

There are some tests which can be applied to decide if you are self-employed. These include:

  • Self employed have greater control over their work than an employee
  • The self-employed can send someone other than themselves to undertake the work
  • The self-employed have some risk of a loss if they do the work badly
  • The self-employed have the possibility of a profit if they do the work efficiently
  • The self-employed provide their own tools or equipment
  • The self-employed are not paid for holidays, sickness or have a notice period

In a self-employment both parties have a right to dispense with services without prior notice.

There is a very good guide entitled IR56 – Employed or self-employed? A guide to employment status for tax and National Insurance contributions on the HMRC website.

If you operate as a limited company and you own more than 5 per cent of the shares in the company, you might need to consider whether you might be in an “IR35” situation.

Many IT consultants are forced to form limited companies to qualify for contracts from large businesses. Basically, IR35 was introduced by the government to prevent individuals from forming a company as a vehicle to receive income as a means of avoiding Income Tax or National Insurance Contributions.

It applies where a single worker’s (“the contractor’s”) services are provided to a client through a limited company (in which the worker has more than a 5 per cent share), where in other circumstances the worker would be an employee of the client.

HMRC expects the income of the company (called “Service Companies”) to be treated as income of an individual.

There are a number of relevant Tax Bulletins and Booklets available from HM Revenue and Customs.

It is more likely that the issue for you is whether HMRC regard you as an employee of the two or three businesses rather than being self-employed. If you are self-employed you are entitled to deduct expenses “wholly and necessarily incurred” in the business. But as an employee you will not be allowed to deduct expenses and your earnings will be subject to PAYE (income tax) and national insurance contributions.

Considering the tests outlined above the fact that your payment is solely commission, there is a case for self-employment – you have two or three customers and there is the opportunity for loss and profit.

But consideration has to be given to all the circumstances including the specifics of the contracts between you and the companies. It is possible to have some contracts outside IR35 and others inside.

You would be advised to seek the advice of an accountant experienced in IR35 cases.

Related: How to wind up your personal service company ahead of IR35 legislation

Jonathan Sumner

Jon Sumner

Jonathan was the Director of Digital & Social Media at Bonhill Group plc until 2020 before moving on to become Chief Digital Officer at GRC World Forums.

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