Certain Inland Revenue rules countering tax avoidance for people providing personal services were first proposed in the 1999 Budget news release numbered IR35. They have since become commonly referred to as "IR35". The rules are designed to remove opportunities for the avoidance of tax and Class 1 National Insurance Contributions by the use of intermediaries, such as service companies or partnerships, in circumstances where an individual worker would otherwise be an employee of the client or the income would be income from an office held by the worker. Because most interim managers operate through their own limited companies, they must take care that their activities do not cast the limited company as such an intermediary.
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by Anne Redston, Partner, Ernst & Young
IR35 is a four-letter word to many interim managers and temporary executives, who see it as poisoning their profits. Also known as the personal services legislation, IR35 affects individuals who operate via a service company or partnership. It asks the question: would the individual have been an employee of his client if he had been operating without the service company? If the answer is yes, the service company has to calculate and pay over much higher levels of tax and National Insurance Contributions (NIC).
Many interim managers and temporary executives operate via personal service companies, and are thus potentially within this legislation. They market themselves to client businesses which have unexpectedly lost a key member of staff, been unable to fill an important role or need someone to take on a particular project, at short notice. Accordingly, an interim manager may step into a job that has been vacated by an employee, and then fill the gap until a new permanent worker is found.
Stepping into the shoes of a former staff member is not a good starting point if you are trying to distinguish your position from that of an employee in order to escape the burden of IR35. It is thus easy to see why temporary executives have been hard hit by the personal services legislation.
Is IR35 inevitable?
The short answer is no. An interim manager will be more likely to be outside IR35 if he/she:
Even those interim managers who fall within IR35 are likely to benefit from a service company structure. This is because the legislation has a number of silver linings.
Firstly, generous travel and subsistence reliefs are available to those within IR35. Employees cannot claim tax and NICs relief for their home to work travel. However, temporary executives who use a service company can usually claim the costs of their travel to and from their client’s office, as long as the period of the assignment does not (and is not expected to) exceed two years. Any associated accommodation and meal costs are also deductible. This relief alone can make a significant difference to an individual’s take-home income.
Jim is an IT consultant who operates as a temporary manager through his service company. He lives in Brighton, but has just won an 18-month contract with a client in the City of London. He accepts that the contract is within IR35, but obtains tax relief on the costs of his travel to and from Brighton, plus his accommodation costs when he stays overnight near his client’s office.
The second silver lining is that those within IR35 are allowed to deduct 5% of their turnover as a round sum allowance. So an individual whose service company received £60,000 a year for his services could deduct £3,000 free of tax and NIC. This is to cover the extra costs of running a company, such as accountancy fees, tax advice and company filing fees. However, efficient individuals who spend less than the 5% are in pocket.
Thirdly, pension payments made by the service company can also be tax and NIC free; careful use of this relief can create significant savings. All in all, antidotes to IR35 may not be so hard to find.
(These notes are expressed in general terms, and specific advice should be taken before taking action in any particular circumstances.)
The second edition of Anne's book, IR35-Personal Service Companies, was published in May 2002. Copies can be obtained by calling 0870 777 2906.