IR35, PSCs and the Public Sector

IR35 rules apply to those who work for an end client via their own company, often a Personal Service Company (PSC). Many of these workers carry out the same work as an employee, but as they are not employed directly do not pay the full amount of income tax and National Insurance contributions (NIC). The intermediaries’ legislation (or IR35 rules) was supposed to rectify this by making individuals working through a PSC pay broadly the same amount of tax as an employee, if they are carrying out the same work. However, there has been widespread non-compliance and PSCs in the public sector are now at risk.

Because of the above opinion, the tax advantages of working through a PSC and the government’s continued effort to tackle tax avoidance. It was only a matter of time before PSCs were targeted by HMRC.

At the Budget 2016, George Osborne announced that the government will be reforming the intermediaries’ legislation for public sector engagements. This basically means that from April 2017 PSCs in the public sector will no longer be responsible for declaring the employment taxes they pay. Instead, the public sector employer, agency or third party (whichever is closest to the PSC in the supply chain) will determine the tax applicable.

Indeed, IR35 rules have always applied to contractors who do not meet HMRC’s definition of self-employed. However, it is now no longer up to the contractor to decide if they meet the conditions or not. Instead, public sector employers, agencies and third parties will be given access to a new IR35 digital test. This test will state clearly whether the contractor falls inside or outside of IR35. If the test confirms that the worker is caught by IR35, he or she will have to be placed on the company’s payroll and pay the full amount of employment taxes.

These tests are expected to be released in April 2017. Although, I fail to see how the test will work for all contractors and give fail-safe results. With liability for this new process falling into the hands of the public sector employer, agency or third party, I expect that all PSCs in the public sector will now automatically be included in the payroll unless the test can categorically confirm otherwise. It is too much of a risk not to.

Consequently, there will be no tax advantage of working through a PSC - in the public sector anyway. Instead it will just be another burden for those further down the supply chain and for recruitment agencies especially, it is a double edged sword. Not only will they be liable for applying the correct tax treatment to their contractor’s pay, but they will also have to review whether engaging a contractor is indeed the way forward.

HMRC are continually looking at ways to crack down on PSCs and although this change is said to only affect those in the public sector. There is a concern that it will only be a matter of time before this rule is extended to those in the private sector too.

For now, there is not a lot that can be done until the consultation document is released before the Summer. Draft legislation is expected in the Autumn and final legislation will be introduced in Finance Bill 2017.

For further information, the government has released a document outlining these changes on gov.uk.

As soon as further information is available, details will be released on our website; therefore make sure you check our recruitment page regularly.