Problems with IR35: 10 reasons your contract might fail

Problems with IR35: 10 reasons your contract might fail

No contractor wants to be the subject of an IR35 investigation. They can be extremely time-consuming and invasive, with HMRC putting every aspect of the contractor’s business concerns, as well as any of their private affairs that are deemed relevant, under the spotlight.

If the contractor is deemed to have contravened IR35 regulations and is deemed to be a ‘disguised employee’ rather than being genuinely self-employed, it could prove costly.

One of the main elements that will be scrutinised is the contract that exists between the contractor and the client. It is therefore extremely important to make sure that this is properly drawn up and avoids common mistakes like the ten listed here:

Previous rulings

If the client has been previously found by the HMRC to have been using disguised employees rather than genuine contractors, all existing and future contractors may automatically be considered to be employees. This could place you inside IR35 and it might pay to research the client organisation before signing anything.

Unprofessional or stock contracts

Badly cobbled-together contracts that contain multiple errors, or even in some cases make proper sense, are sure to trigger HMRC alarm bells. The same can be said for stock contracts that have not been drafted specifically for your engagement or assignment, or that have been lifted wholesale from another source.

The ability to substitute

One of the acid tests for determining whether a worker is classed as self-employed or as an employee is whether they are allowed to use a replacement to deliver the work or services stipulated in the contract. If they cannot use a substitute, they are likely to be deemed an employee. Some contracts specifically forbid substitutions because of this.

Issues of control

Another important test of status is whether the contractor is directly under the control of the client. This could include elements such as supervision and direction by the client as to how the contractor should carry out tasks and assignments.

Financial risk

One of the key elements of running a business or being self-employed is that you bear the risk if it fails. If the contractor works specified hours for a set fee, without clauses that stipulate potential financial risks, they could be deemed to be employees and are therefore inside IR35. Financial risks in this context could mean there would be a financial penalty if a stated goal or deliverable was not achieved within a given timeframe, or that the contractor must rectify mistakes in their own time.

Mutuality of obligation (MOO)

A mutuality of obligation or MOO exists when the client has an obligation to provide paid work and the contractor is obliged to accept and complete the work. This situation pretty much sums up an ongoing period of employment, where the employee is guaranteed regular work and must complete tasks and requirements set down in their job description. For this reason, it has a large bearing on IR35 status, although generally not as much as the elements of control and substitution outlined above.

Equipment provision

If a contract states that the contractor should only use the client’s equipment onsite, this could be seen as further evidence that they are not bearing any financial risk and could nudge them further toward employee status. This is unlikely to be enough to place a contractor into IR35 without further evidence or factors however.

Part and parcel

If a contractor is considered to be ‘part and parcel’ of the client organisation, they could easily fail the IR35 test. In practical terms, this could involve a number of factors that could seem to be perfectly sensible working practices, such as giving the contractor access to employer facilities. It could be something as simple as access to a staff canteen or providing a staff pass to avoid the need for them to sign in and out of the premises every time.

Stated intention

If the working practices do not accurately reflect the contents of the contract, then HMRC can legitimately use the relationship as it exists as a basis for their decision regarding IR35. It can certainly help if the contract explicitly states that the intention is to provide an agreement between a client and a self-employed contractor, rather than an employer and employee.

Failing to do so – a common mistake, particularly in DIY contracts – could set HMRC alarm bells ringing and provide further ammunition if the taxman is trying to demonstrate that a contractor should actually fall within IR35 as a disguised employee.

The whole body of evidence

There is rarely a single clause or element of a contract that firmly places a contractor into the remit of IR35. Rather, a case will be built upon a number of factors, and investigators will consider the whole body of evidence. The contract between contractor and client will often form a large part of this holistic body of evidence, so if it contains any of the previously listed mistakes, you might have cause for concern.

Having a contract professionally drawn up, checked and reviewed can help to avoid some of these all too common mistakes. If an HMRC investigation does place you inside IR35 when you believe you should be outside it, you should seek expert advice.

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