In our recent ‘must read’ articles ‘IR35 made easy’ and ‘IR35 made easier’ we addressed how to engage a contractor without risk and how to address risk in circumstances where there was no clear-cut answer on status. In this article, we consider some more specific issues surrounding engagements and, in particular, where contractors are paid on an hour/day rate basis.
Under the new rules from April 6th it is the clients’ responsibility, unless they are classified as a small company or have no UK connection, to make the IR35 assessment when hiring a contractor. Deciding whether a contractor would be a deemed employee by assessing the different legal elements will be difficult, as discussed in our previous articles. This is because, on one level, it is difficult to define all the characteristics of employment. However, it has been said, that an employee is similar to an elephant, difficult to describe but you know one when you see one!
Perhaps one of the clearest ways of distinguishing employees from the genuinely self-employed is the way that the work is paid for and this may be a useful indicator of the type of relationship that is being entered into.
If a hirer engages a contractor for a specific piece of work or project and both parties agree, at the outset, the price for that work, a total cost arrangement, it would seem unlikely that that the relationship would be perceived as one of employment. If an IT contractor is engaged to review and develop a clients’ website, the parties agree the work to be done and the desired outcomes and a price of £20k to complete that work, the price is based on the agreed work and deliverables, not directly to the time spent. This immediately differentiates the arrangement from one of employment, it would seem unlikely that the client engages its employees on this basis. Therefore, even if there are other characteristics of employment, the elephants’ trunk has disappeared, it may still be an elephant, but it certainly looks a lot less like one, and the arrangement is immediately in a lower risk category.
However, if contractors are paid for a defined period on an agreed hourly or daily rate this immediately can be identified as similar to an employment contract, albeit a zero hours one. The trunk looks like it’s back! So, apart from the convention that contractors supplied through agencies have usually been engaged on a time and materials basis, why increase risk?
Using the example above, let’s say a contractor is engaged to develop the website, but there is no agreed price but instead a £500 day rate. The amount the contractor is paid is directly related to the time spent rather than the deliverables. Unlike set price arrangements the contractor is unlikely to be able to profit by efficiently delivering the work ahead of schedule or conversely be subject to financial risk should the work overrun. This does not, of course, mean that the arrangement must be caught by IR35. However it does mean that the arrangement more resembles employment, namely temporary worker hire rather than contractor engagement, and so more likely to attract HMRC’s attention, in contrast to the price method with contracted deliverables. It is of course always possible to pose arguments, but those are only necessary fall backs if HMRC investigates – not an attractive proposition. It must be better to reduce, not increase, the chance of an investigation in the first place.
Given that many agencies and hirers appear to want to continue setting up arrangements on a time and materials basis, not only could this be the elephant in the room but one easily identified as the very elephant that HMRC will be looking for. Taking CEST as an example it is possible to run through a set of facts identifying work based on fixed price where the tool indicates the arrangement is outside IR35, but if you input payment being made on an hourly/daily rate on the same facts, the result is inconclusive. Payment on the latter basis therefore indicates risk.
Whilst there are of course other factors to consider, and HMRC guidance points to examples of where employees and self employed can be paid on an hourly basis, it does suggest that an hours paid basis may imply control:
“It is sometimes more helpful to see what underlies the method of payment. For example, does the hourly payment method enable the engager to exercise control over the worker. If he can, this is a strong pointer towards employment”.
The conclusion is that hour/day rate contracts should ideally be avoided if the parties want the contractor to be safely paid on a gross basis without storing up debt for unpaid levels of PAYE and NICs. Instead, work and payment arrangements should be consistent with genuine ‘self-employed’ fixed priced arrangements supported with appropriate contracts in place reflecting the responsibilities that follow.
For more on IR35 and contracts required for outside IR35 arrangements, review of project descriptions or alternative forms of contract (e.g. PAYE and protective umbrella terms) contact Lawspeed on 01273 236236 or info@lawspeed.com
