Is a lengthy contract detrimental to IR35 status?
Securing a long term contract will create a good degree of financial security for a freelancer’s business and therefore some peace of mind but does it have a negative effect when it comes to IR35? In short the answer is no.
The length of an engagement is a neutral factor when considering employment status but other factors may come into play that could have an effect on a contractor’s IR35 position.
Long Engagements
HMRC are of the opinion that the longer the engagement then the more likely the existence of a contract of service (employment) because the end client will want to exert significant amounts of control over the freelancer. This was exemplified in the first tier tax tribunal case of JLJ Services Ltd (2011).
John Spencer, the director of JLJ Services Ltd, was an expert in his field, and provided his services to Allianz during the period May 2000 – 2007. There was little intervention with the day-to-day work that John Spencer did although Allianz would naturally enquire about progress, particularly if a project was overrunning.
If some emergency arose, Allianz testified that they could require the contractor to pause work on a particular project if some other matter needed to be attended to first.
Although Mr Spencer did not believe there was any quality control at Allianz or at least the type he had been used to in his career, the Tribunal believed there would have been sufficient quality control for the management to derive confidence that Mr Spencer was capable to accomplish the project work.
The Tribunal accepted that in the early period of the contract when Mr Spencer was engaged for a single project and for defined projects thereafter, the contractor was using his expertise in a manner that could not be controlled in the sense of “how” he did his work. Control over his work was therefore limited. By the end of 2003 however, Allianz wanted Mr Spencer’s services on a permanent basis. They no longer engaged him on projects but rather on an annual basis and as such he became one of Allianz’s key computer experts, available for work that was likely to be available indefinitely. As such, the control argument became stronger.
Where an engagement lasts a number of months the engager may want a right of control because of a need to move the worker between tasks, so say HMRC.
Long engagements are most certainly likely to involve mutual obligations as both parties may expect the offer and acceptance of work bargain to be ongoing.
As time marches on the contractor may be viewed by the end client as part of the furniture and become integrated into the organisation. It could also be that in a more relaxed environment the approach to the work may also be less business-like.
Short Engagements
Where a contract is for a short period there may be less scope for the end client to exercise control over the freelancer especially if the freelancer has been taken on for a specific task. Shorter spells may not provide enough time for an individual to be integrated into the end client organisation. With anyone starting a new job more often it always takes a good while for them to get fully settled in and become familiar with their new surroundings and colleagues.
If the contractor knows they are only going to be working at an end client site for a brief period of time then their relationship may be more formal and a more business-like approach maintained at all times. That is not to say that freelancers do not effuse this in longer engagements but the theory is that during such lengthier spells familiarity may cause the business mask to drop.
Mutual obligations may still exist although it could be that termination notice periods will be shorter which will help to argue otherwise.
This test is a minor one and not one that is decisive. A contractor therefore should never allow themselves to be dissuaded from accepting a lucrative long engagement or even terminating one simply because of the IR35 effect. What they should be mindful of during such times, however, are the other status factors that are evoked by a long contract period.
With the retrospective time machine that HMRC is trying to employ in tax legislation this situation may well change in the future. THEN YOU ARE STUFFED.
So saying that the test is a minor one and not decisive is all very well in July 2013, but look forward to March 2015 and that may be very different. As we all know, we need to own crystal balls as well as laptops in our business inventory.
if caught by IR35 why does the deemed employee have to pay the employer’s NI?
From a purely pragmatic point of view, surely HMRC would be less inclined to pursue a case where the amount of potential NICs underpaid is lower – so if you’ve only been working on a contract for 6 months at 400/day, say, then it wouldn’t be cost-effective for them to go to all that effort for the sake of about £13k, would it?
[quote name=”Simples”]From a purely pragmatic point of view, surely HMRC would be less inclined to pursue a case where the amount of potential NICs underpaid is lower – so if you’ve only been working on a contract for 6 months at 400/day, say, then it wouldn’t be cost-effective for them to go to all that effort for the sake of about £13k, would it?[/quote]
It most definitely would be worth it ‘as a deterrent to others’.
(Although the criminal justice system dropped this approach when they stopped deportation to Australia and hanging…)
Mark – it is not the deemed employee who is responsible for the PAYE and NIC but rather their company, i.e the contractor’s limited company who is the freelancer’s employer.
Redcar – employment status tests are not legislative but rather have been developed through the courts over the passage of time, therefore retrospective legislation is not relevant here. However, it is possible that HMRC could try to interpret the test in a different manner and to its application but if they attempted to do this retrospectively one would simply refer them to their own guidance that existed at that time.
I do agree that HMRC would be interested in pursuing a 6 month contract if the conditions were right. This would be more likely where HMRC were carrying out an IR35 review into a contractor for a period that involved a number of contracts, one of which was the suggested 6 month contract
[quote name=”Andy Vessey”]Mark – it is not the deemed employee who is responsible for the PAYE and NIC but rather their company, i.e the contractor’s limited company who is the freelancer’s employer.
[/quote]
While that’s technically correct, the net effect is of course that the contractor pays the ER NI (as well as EE NI). And the ER NI is the higher of the two at 14% throughout, no upper limit.
That is the real injustice of IR35 – what a contractor receives into a Ltd Co is no different to a self-employed / sole trader person, yet they pay about 9% NI )in the form, of Class 2 / Class 4 contributions) and they have the same upper limit as EE NI yet the Ltd Co pays a small fortune by comparison.
Given that the Ltd Co is largely enforced due to agency legislation, it’s hard to see how there differences can be justified in terms of fairness.
[quote name=”C”]
Given that the Ltd Co is largely enforced due to agency legislation, it’s hard to see how THESE differences can be justified in terms of fairness.[/quote]
Typo corrected above 🙁
I’m on a long term contract – renewed annually, and am a key person for my client. I’ve felt pressured into going inside IR35, which I have now done, as I don’t want to get a backdated tax-bill in 5 (or 10) years time! It sickens me to my back-teeth to have to do this however as my client excludes me from all staff activities and generally treats me as a contractor in every way. I would fail most of HMRC’s tests however including control, mutual obligation etc…so it’s safer to go IR35. It’s about time we had proper, clearly defined laws around this!! This is costing me a fortune and I’m a genuine contractor but would find it very difficult to prove to HMRC!!
if one is deemed an employee then one is usually deemed an employee of Xxxxx PLC, not one’s limited co. So the deemed employer should pay emploers NI.
I’ll gladly see HMRC off in court. If they want to collar me for IR35, I’ll be wanting:
a) HMRC to produce my ’employer’ in court
b) All my VAT contributions back
c) All my Corporation Tax payments back
They can’t have it both ways…
Ross, In the event of an IR35 fail you will usually be able to amend the previous years CT returns to reflect the change in the profit. Certainly some of the corporation tax is refundable.