In this article, former Inland Revenue auditor and Tax Inspector Ray McMahon, reveals his secrets. The opinions expressed are Ray's, not OUT-LAW.COM's.
If treated as disguised employees of another business, the Revenue will request additional tax and National Insurance Contributions (NIC) from the consultants or the client business under PAYE (Pay As You Earn).
As an ex-Inland Revenue auditor and Tax Inspector (with over 20 years tax experience) my job was to "catch" these businesses and consultants. But now I am a self-employed Tax Consultant my job is to help these consultants and businesses when dealing with the Inland Revenue. (A case of gamekeeper turned poacher!). In an average year I would "get a result" in over 80% of all businesses inspected and would obtain between £250,000 - £500,000 additional tax, NIC, interest and penalties for the Inland Revenue.
Many businesses argue that the individuals declare their own tax and NIC under Self-Assessment. However, if the individual has not declared the amounts (maybe because his accounts are not due yet) the Inland Revenue will seek all tax and NIC (approximately 45% - 63% of all invoiced amounts) before adding interest and penalties. If the amounts have already been declared by the individual, the Inland Revenue will often still ask the client business for Employers NIC at the rate of 12.8% (2003/2004 rate) and additional interest and penalties. They may consider charging the consultant's own business (i.e. a "one man band company") these amounts. Either way, the Inland Revenue will generally go back as much as six years and estimate (if necessary) a settlement figure.
There are many areas the Inland Revenue look for. For example, if the individual has business cards for the client business, has his own office on the business premises, works every week for the same business, is paid an hourly rate, takes instructions from an employee of the business or is provided with a company car. All these point towards the individual being an employee of the business.
Now that I work for myself, people ask how they can avoid these potential issues. The easiest way is to review the work of the individual and prepare a working contract (not a verbal contract which the Inland Revenue can easily challenge).
There is no standard contract or a single pointer towards employment or self-employment. The only way is to review the working practices and conditions and to use the tax cases over the years to arrive at the correct decision. The Inland Revenue questionnaire to determine status of individuals comprises more than 85 questions! If you leave it for the Inland Revenue auditor or Tax Inspector to make the decision, then generally they will argue that the individuals are employees as they get extra credit for "finding these errors". By challenging the Inland Revenue and using tax cases, a case can be put to the Inland Revenue that the individuals are genuinely self-employed and can continue to pay their own tax and NIC under Self Assessment.
Overall the best way to avoid IR35 action is to ensure you only use genuinely self employed consultants.
By Ray McMahon