Locums working through their own companies and the practices they work for need to ensure they are on top of the off-payroll working and IR35 rules as mistakes can prove costly. There are a number of obvious questions, such as “What are the rules?”, “Who is affected?”, and “What do both individual locums and practices need to do to remain compliant?” This article will tackle them.
The rules laid out
The off-payroll working rules are intended to ensure that contractors and the businesses they work for can’t save tax by introducing an intermediary into their contractual arrangements. For example, a veterinary practice wishing to take on a locum could choose to engage the individual directly. If the locum was classed as an employee for tax purposes, the practice would have to operate pay-as-you-earn (PAYE) and would also be liable for employers’ national insurance contributions (NICs). Alternatively, the practice could contract via a company owned by the locum (often referred to as a “personal service company” or “PSC” for short). In the absence of the off-payroll working/IR35 rules, the locum could end up with a lower tax and NIC bill, and the practice wouldn’t need to worry about employer NICs or operating PAYE.
The off-payroll working rules are intended to ensure that contractors and the businesses they work for can’t save tax by introducing an intermediary into their contractual arrangements
To tackle such arrangements, the government at the time introduced a set of rules, often referred to as “IR35”, over 20 years ago. Under IR35, the contractor has to decide if, ignoring their personal service company (PSC), they would have been an employee of their client. If they would, the PSC has to account for the appropriate payroll taxes and NICs to HMRC.
Following longstanding concerns over the level of non-compliance with IR35, new rules (referred to as “off-payroll working”) were introduced for the public sector in April 2017 and the private sector in 2021. Under off-payroll working, the responsibility for deciding whether or not a contractor should be taxed as an employee is taken out of their hands. Instead, it is up to the client to determine whether the rules apply and to ensure that the correct payroll taxes and NICs are deducted from payments made to the PSC.
Which IR35 rules apply to me?
Despite the off-payroll working rules now applying across both the public and the private sector, the old IR35 rules have not disappeared. In particular, contractors still need to consider IR35 if the end client they are working for is either based wholly overseas or classed as “small”.
For these purposes, unincorporated clients such as sole traders or partnerships will be small if their turnover does not exceed £10.2 million. Clients that are companies or limited liability partnerships (LLPs) need to meet the Companies Act definition of a small company, which broadly requires any two of the following:
- Turnover not exceeding £10.2 million
- Assets not exceeding £5.1 million
- No more than 50 employees
When do the IR35 rules apply?
The off-payroll working and IR35 rules work in very similar ways; the key difference is who makes the decision and who is responsible for deducting tax and NICs.
The off-payroll working and IR35 rules work in very similar ways; the key difference is who makes the decision and who is responsible for deducting tax and NICs
Under both regimes, there needs to be:
- An individual worker performing services for a client
- Service provided through an intermediary (such as a PSC or, less commonly, a partnership) instead of the client directly engaging the worker
- An individual regarded as an employee for tax purposes if the worker has been contracted directly by the engager
The first two of these conditions are relatively straightforward, but the third is much trickier. In effect, you have to imagine there is a direct contract between the worker and client and consider whether that contract would have been one of employment. If the worker would have been self-employed, then off-payroll working/IR35 do not apply, but if they would have been an employee, the rules apply.
What should my practice do?
The first thing for veterinary practices to check is whether they qualify as “small”. If they do, they have no further obligations under the off-payroll working rules, and it will be up to the locum to worry about IR35 instead. If they are not small, they need to carefully check their contracts with locums and other contractors. If any of these aren’t directly with the individual or an agency but instead through a PSC or other intermediary, then the off-payroll working rules need to be considered.
For each contract potentially in scope, the practice needs to consider whether the locum would be considered an employee for tax purposes, if they were engaged directly. HMRC’s Check Employment Status for Tax tool may help with this. It’s important to take reasonable care in coming to this decision, as if not the practice could be on the hook for any tax due, as well as possible penalties and interest.
Practices then need to issue a document known as a status determination statement (SDS), setting out whether or not they think the off-payroll working rules apply and their reasons for this. A copy of the SDS needs to be given directly to the individual locum and any agency the practice contracts with for their services. If off-payroll working applies, then whoever pays the locum’s PSC will need to operate PAYE and deduct tax and NIC from those payments. Depending on the exact contractual circumstances, this could be the practice itself or an agency.
Practices need to ensure that they have procedures in place to monitor all contracts entered into with locums, issue an SDS and deduct tax and NICs as needed
Either way, practices need to ensure that they have procedures in place to monitor all contracts entered into with locums, issue an SDS and deduct tax and NICs as needed.
What do locums need to do?
If a locum enters into a contract to provide their services via a PSC or partnership, they should first check whether or not the practice they will work for is “small”. Locums should ask the practice this question directly – while there is no specific requirement for small clients to inform contractors of their status, they have to provide an answer if asked.
If the practice is small, the locum will have to consider whether the IR35 rules apply and ensure their PSC accounts for PAYE and NICs accordingly. If they are not small, the locum should receive an SDS from the practice setting out their conclusion as to whether off-payroll working applies and the reasons for this. This should be checked carefully for accuracy, especially any statements made regarding the contractual or working relationship.
If the rules apply, payments made to the locum’s PSC will be net of tax and NICs. This could give rise to cash flow problems; however, the PSC won’t pay corporation tax on the amounts it receives, and the locum is free to extract the funds as a dividend or salary without paying any additional tax or NICs.
What happens if the locum and practice disagree?
If a locum disagrees with the practice’s conclusion as to whether off-payroll working applies, they can ask them to reconsider. The practice then has 45 days to either uphold its original decision or issue a new SDS. Practices need to ensure they have procedures in place to handle such disagreements and turn them around within the deadline, or they will remain liable for deducting tax and NICs.
Unfortunately, if the locum and practice continue to disagree, there is little more that can be done. HMRC will not intervene to settle any disputes, and instead, the locum and practice will have to decide whether they wish to continue or walk away from the contract entirely.
If a locum disagrees with the practice’s conclusion as to whether off-payroll working applies, they can ask them to reconsider. The practice then has 45 days to either uphold its original decision or issue a new SDS
Dealing with mistakes
If the off-payroll rules are not applied correctly, responsibility for paying the tax and NICs due stays with whomever failed to play their part. For example, if a practice does not issue an SDS when required, HMRC can pursue them for the tax due. If an agency fails to deduct tax from payments to a PSC despite receiving an SDS saying the rules apply, they will be liable for the tax due. If HMRC can’t recover tax from an agency it can, in certain circumstances, pursue the practice for the money owed instead. It is therefore important for practices to make sure they carry out appropriate due diligence on any agencies in their labour supply chain.
Even if all the rules are followed, there is always the chance HMRC could challenge the conclusion that off-payroll working does not apply
Finally, even if all the rules are followed, there is always the chance HMRC could challenge the conclusion that off-payroll working does not apply. If this happens, it will seek to collect the tax and NICs that should have been deducted from payments to the PSC and will inform the locum and PSC that they may be entitled to a refund of other taxes already paid. However, this is all set to change from April 2024 when new rules will state that any tax paid by the PSC and locum can be offset against the payroll taxes HMRC seeks from the practice. This will leave the locum and PSC unable to claim a refund.
Despite off-payroll working and IR35 being with us for some time, they continue to be a common source of misunderstanding among contractors and businesses alike. HMRC publishes a range of guidance tailored to different parties, all of which can be accessed from Gov.uk under “Understanding off-payroll working (IR35)”. It’s worth both locums and practices working through this to ensure they understand their responsibilities.