28th May 2014 Written by Andy Vessey
From time to time contractors are offered shares by their end clients as part of the fee structure. This could be cash plus shares over the term of the contract or an incentive to meet deadlines. How then does this affect a freelancers IR35 position, should they choose to accept any share offer?
As a method of remuneration shares are quite acceptable as they can be converted into cash upon sale or retained as an investment to earn future dividends for the contractors business. Whether or not agreement to take up the shares or share options affects a contractors’ IR35 position will depend upon the basis of how they are offered.
If the shares are offered on terms to the personal service company (PSC) that are quite separate and distinct from any employee share scheme that the end client may have in place, then this should be seen as part of the commercial exchange between the two parties. However, should the shares be available to the individual contractor on precisely the same terms as the end client’s staff, then this will create problems for a freelancers’ IR35 status. This is because options to acquire shares are granted by reason of a person’s employment.
Legislation permits various incentives to encourage employees to participate in their employers businesses. HMRC recognise that, ‘when interests of employees are aligned with those of their employer through shareholdings in the employer company, there is a correlation with increased company productivity.’
Where an employer offers members of their workforce shares in their company as part of an employee share scheme, the employee will get certain tax advantages via four statutory arrangements designed to ‘encourage employees to hold shares in their employer.’ These are:
There are also tax advantages on shares an employer offers a person to agree to become an Employee Shareholder.
A contractor therefore who agrees to participate in any share scheme that is the same or similar to that which end client employees are involved in will be viewed by HMRC as being part and parcel of the end user organisation. The end client is likely to have offered the contractor shares as they view the contractor as an integral part of the organisation, particularly if the freelancer has been working for that client for a good number of years.
As a remedy, where such shares are offered and a contractor is attracted by such an offer then a separate agreement should be drawn up between the end client and the PSC that is quite different to the employee share scheme documentation and which demonstrates the commerciality of the arrangement. This should enable a contractor to dispel HMRC’s contention that integration is a feature of the contract.
End users that are foreign businesses may offer shares or options on a ‘blanket’ basis to their employees and self-employed consultants alike, regardless of their status. Again, integration may be the motive for such an offer but the fact that there is no discrimination of employment status may allow the contractor more freedom to accept the securities more readily.
I recently came across a contractor who has been contracting to a U.S end client and was offered stock options in the end client business under a ‘Stock Incentive Plan.’ Eligibility was granted to directors, officers and employees of the corporation, affiliates and certain self-employed consultants and advisers. Furthermore, participation was only upon invitation by the U.S business.
In this scenario, before exercising any rights of offer, a freelancer should satisfy themselves that all the major employment status factors, such as personal service/right of substitution, control and mutuality of obligation, rest in their favour.
Whilst from an IR35 perspective, it may be better for the PSC to exercise any share options, if all status factors, ignoring integration, remain firmly in the contractors’ corner then it may be possible for the individual to exercise such rights, so as to take advantage of the more favourable capital gains tax treatment for individuals when assets are sold, i.e. the annual exemption which is currently £11,000.
Exercise caution and diligence before exercising your rights.
By Andy Vessey