Friday, June 01, 2012


I have just been reading an interesting HMRC document that tells people how to stop being an employee and become self-employed.  They did not actually give it the above title.  They called it “Intermediaries Legislation (IR35)”.  Accordingly some readers may have ignored it because they have no clients within IR35.  But IR35 looks at a notional contract between the worker and the end user.  If that notional contract would be an employment contract, IR35 applies.  It clearly follows that the guidance must be equally valid if there is no intermediary; if what needs to be looked at is an actual contract (written or oral or partly written) between the worker and the end user.

To be honest I just glanced through it myself when it was issued.  I thought Part 1 fairly silly and with no basis in law, and did not look at Part 2.  But Part 2 is the really interesting bit.

Part 1 lays down a number of tests to determine whether a person is employed or not and allocates points to signify how important HMRC regards each.  I set out below the tests and HMRC points.  I have also added my own points based on case law.

The Points System

                                                                                      View              My View

Do you have business premises separate
from your home                                                            10                    1

Do you need Professional Indemnity Insurance            2                      negligible

Has your business had an opportunity in the last
2 years to increase your income by working more
efficiently (tip: if you agree a target delivery time
and deliver earlier you can answer “Yes”)              10                    negligible

Do you engage any workers who bring in at
least 25% of your yearly turnover (tip: if you
agree to produce a report and your wife will
type it, answer “Yes” as you will not generate
any income without her labour)                         2                      2

Has the current client engaged you as an
employee within the last 12 months with no
major changes to your working arrangements
(tip: choosing where and when to perform the
work is probably a major change)                           (15)                  negligible

Does your business both

a)      Have a regularly updated business plan
(yes, that is really the test even though
very few businesses have one), and

b)      Does your business have a business
bank account identified as such by the
bank (tip: don’t let them label it “No 2
account”)                                                         1                      negligible

Do you have to bear the cost of having to put
right any mistakes (tip: put it in the contract
as HMRC don’t understand that in practice
virtually everyone – obviously, outside HMRC –
including employees, is expected to do this)                  4                      negligible

Have you had any bad debts exceeding 10%
of your turnover in the last 2 years (I don’t
understand the relevance of that either)                    10                    negligible

Do you render an invoice before being paid
and negotiate payment                                               2                      negligible

Do you have the right to send a substitute                   2                      negligible

Have you ever done so within the last 2 years            20                    45
                                                                                    48                    48

Whilst I do not want to go too far into Part 1, the reason why I feel that HMRC’s points system is ridiculous is that the law on employment status is very clear, albeit that its application is far from easy.  There cannot be a contract of employment unless

a)                  the contract imposes an obligation on a person to provide work personally,

b)                  there is mutuality of obligation between the purported employer and employee, and

c)                  there is some element of control, i.e. the ultimate authority over the purported employee in the performance of their work resides in the employer.

It is only if all 3 of these elements are present that one moves to the next stage and stands back and asks if the facts point most closely to the employment.  This legal basis was reaffirmed most recently in the Employment Appeal Tribunal in Quashie v Stringfellows Restaurants Ltd (UK EAT/0289/11/RN).  Having a real right to send a substitute (and proving that it is a real right by having done so) accordingly means that there is not an employment as head (a) above is not met.  A test that allocates a mere 22 out of 48 points to the lack of an obligation to perform personal services accordingly does not conform with the law.  However I have no objection to HMRC laying down a non-statutory “safe harbour” test of employment as long as everyone realises that the test is simply a concession and not a purported interpretation of the law.  It is at least interesting to see what factors they take account fo and teh degree fo importance they attach to each.

Part 2 gives some examples.  This is the real goodies.  Take Emma.  Emma works for X Ltd for 18 months on three successive 6-month contracts.  She works for nobody else during that period.  They are fixed price contracts.  If Emma works overtime (which obviously implies fixed hours) she is paid extra but has to negotiate the extra payment.  She is highly skilled and has no right to send a substitute.  Before engaging Emma, X Ltd has checked her background and interviewed her.  Emma is highly skilled and X Ltd gives her a completely free hand over how and where she works.  In practice X Ltd provide all of the equipment Emma needs.  Emma reports to a manager of X Ltd every Friday afternoon.  She tells X Ltd “out of courtesy” if she cannot attend for any reason.

Is Emma an employee?  She looks like one to me.  I ran her details through HMRC’s Employment Status Indicator.  This told me that Emma is an employee.  There is a low indication of substitution, a medium indication of control and a medium indication of financial risk.  I agree.  But this new HMRC publication says, “If the end client had contracted directly with Emma, she would have been self-employed”.

Juanita has worked for a single client for 8 years.  She is paid by the hour and the client would not accept a substitute as her services are so highly specialised.  The client directs the scope of the project which Juanita has to deliver and by when.  The end client provides all of the equipment.  Juanita works as part of a team.  The client has to give her notice if they want to terminate the agreement.

Before reading the guidance I would have felt embarrassed in trying to argue that Juanita is self-employed – but the HMRC view is that her circumstances are borderline and they need more facts.

The other examples are equally informative.  It seems clear from these that HMRC have significantly relaxed their view on when a person is self employed.

Incidentally, although I personally find the HMRC points system fairly ridiculous it is worth noting that if a client scores more than 20 points on their scale, he is regarded as low risk.  They say that if when they open an IR35 review if the worker has kept a copy of his scorecard and evidence to support the answers, they will close the review and go away unless the information given was inaccurate.  HMRC’s “Your Charter” states that a taxpayer can expect HMRC to treat him even-handedly.  This must mean that they will treat someone who works direct for a client no more harshly than someone else doing similar work but who seeks to reduce his tax bill by working through an intermediary.  Accordingly a self-employed individual who has completed the questionnaire and established a low-risk status must be entitled to tell HMRC of this and expect them to go away.



Blogger Adam said...

Hi Robert, just came across this post while researching into ir35. I'm thinking of becoming a full time freelancer and I've got to say that based on the ir35 info I've found so far, it's a very scary topic. It seems to be based more on the whimsical judgement of the HMRC more than any real guidelines, but I appreciate all the advice.

Do you have any information on the differences between sole traders and limited companies?

8:14 am  

Post a Comment

<< Home