In April 2021, significant changes were made to the IR35 rules, impacting how contractors and clients must determine IR35 status.
As a UK accounting firm, we frequently encounter questions like, “How do I account for IR35?” In this blog post, we’ll delve into the nuances of these rules, ensuring you’re well-informed about deducting tax, the role of a deemed employer, and the implications for your tax return.
IR35 rules: a brief overview
IR35, also known as the off-payroll working rules, was introduced to tackle what HMRC deems ‘disguised employment’.
In essence, IR35 helps ensure that contractors pay broadly the same amount of income tax and National Insurance as a traditional employee.
The rules apply to contractors who provide services to clients through an intermediary and would be classed as an employee if they were providing the same services directly.
Payroll and reporting, deducting tax and National Insurance
Compliance with IR35 rules involves using the real-time information (RTI) system. The deemed employer must report payments to HMRC through this system every time a contractor is paid, just like with regular employees.
This ensures transparency and allows HMRC to keep track of the tax and National Insurance contributions (NICs) being paid.
Deducting the correct tax and NICs correctly is vital. The employment pages of a contractor’s tax return must also accurately reflect these deductions.
Deemed direct payments
Under IR35 rules, the payment received by a contractor is deemed to be employment income, subject to tax and NICs as if it were an employee’s salary.
The process of determining this involves calculating the ‘deemed direct payment‘.
The deemed direct payment is the amount paid by the deemed employer to the worker’s intermediary that should be treated as earnings for the purposes of the off-payroll working rules.
To calculate the deemed direct payment, do the following:
- work out the value of the payment to the worker’s intermediary, having deducted any VAT.
- deduct the direct costs of materials that have, or will be, used in providing their services.
- deduct expenses met by the intermediary that would have been deductible from taxable earnings if the worker was employed.
The resulting amount is the deemed direct payment. If this total is nil or negative there is no deemed direct payment.
Limited company contractors and service companies
For contractors operating through a limited company or a service company, IR35 has significant implications.
If found inside IR35, the income they draw from their company would be treated as employment income and not as dividends or through the business. This change affects how taxes and NICs are calculated and paid.
Public sector vs private sector: what’s the difference?
While IR35 rules apply to both public and private sectors, there are some distinctions. The public sector has been responsible for determining the IR35 status of its contractors since 2017.
The April 2021 changes extended this responsibility to the private sector, albeit with some differences in implementation and scope.
Staying compliant with IR35
Accounting for IR35 involves a thorough understanding of the off-payroll working rules, accurate deduction of tax and NICs, and diligent reporting.
Whether you’re a contractor in the public or private sector, or a business engaging with contract workers, it’s essential to stay informed and compliant.
As we revisit the question, “How do I account for IR35?” it’s clear that the answer lies in diligence, understanding, and a proactive approach to these complex regulations.
To talk to us about your question, ‘how do I account for IR35’, get in touch today.
