What Does Inside IR35 Mean And Options If Your Company Is Insolvent
For company directors navigating the off-payroll working rules, a common question is – what does inside IR35 mean exactly?
IR35 stands for the Inland Revenue press release number 35, issued by what is now HMRC back in 1999 as part of that year’s budget. It came into force the following year and the government incorporated the full Intermediaries Legislation into the Income Tax (Earnings and Pensions) Act 2003.
These off-payroll working rules apply to public sector companies receiving a contractor’s services and also private or voluntary sector clients meeting two or more of these conditions:
- Annual turnover of over £10.2m
- Balance sheet total of over £5.1m
- More than 50 employees
Our article is primarily for directors in charge of their own personal service company, serving one of the aforementioned types of business.
We will explain the IR35 rules… But also, the potential implications if HMRC analysis determines that you have been ‘inside IR35’ after you have declared to be self-employed.
HMRC could backdate a large tax charge and interest payments, potentially leading to company insolvency and a tough situation for directors to manage.
Read on to learn more about how to avoid this outcome and your company recovery options should such a scenario occur.
What is IR35? Inside IR35 meaning
IR35 is a government initiative to prevent tax avoidance. Its aim is to target contractors the government believes should count as employees and are therefore avoiding certain tax payments associated with PAYE.
HMRC has the authority to look for disguised remuneration. IR35 legislation aims to identify so-called ‘disguised employees’ that the government believes should pay National Insurance and tax contributions to the same extent as PAYE staff.
The government provides a tool for determining whether IR35 rules apply, along with guidance – the Check Employment Status for Tax (CEST) tool.
Key questions appearing during the tool’s questionnaire format include:
- Do you control how and when to carry out the work?
- Can you appoint someone else to carry out the work if you’re not available?
- Does the contract mention rights such as holiday or sick pay?
The status ‘inside IR35’ means that a contractor is providing a service in a similar way to an employee. HMRC deems that if you are inside IR35, you are an employee for tax purposes and not self-employed.
Now we’ll explore a problematic potential scenario and the implications. We’ll look at what could happen if a director provides a service via their intermediary personal company, records the employment status as ‘outside IR35’ but HMRC disagrees.
IR35 investigations and potential company insolvency
After potentially suspecting an anomaly, HMRC could investigate – looking back at past contracts and backdating any extra tax it argues should be payable.
There is a six year time limit, according to HMRC. This means that HMRC can analyse contracts going back six years to determine whether a company director counted as a worker inside IR35, despite claiming not to be.
Of course, a backdated tax charge for work completed over several years has the potential to significantly affect the financial situation for a director’s company.
One option in this scenario is to try renegotiating remuneration with the client to fill the financial gap. If not possible then the director may decide the best option is to close the company and choose another way to operate.
To close down a solvent company, there are several options. These include a Members’ Voluntary Liquidation (MVL), a fairly straightforward process for winding down activities and distributing company assets in a tax-efficient way.
An insolvent company means it is unable to pay back its debt when due. You could appoint an insolvency practitioner for a Creditors’ Voluntary Liquidation (CVL).
In a CVL, an insolvency practitioner aims to sell business assets to repay as much of the debt as possible before the company closes down.
Directors may be eligible for redundancy pay. Read our recent guide on director redundancy to find out more.
Final thoughts: What is inside IR35?
We hope that this article has helped you understand the difference between outside and inside IR35, plus some of the potential pitfalls of an HMRC investigation into this.
In short, inside IR35 means a contractor needs to pay tax and National Insurance contributions as if they are a PAYE employee working for the client.
A company director operating outside IR35 but then challenged on this by HMRC could face a heavy backdated tax bill, potentially leading to insolvency. In these circumstances, we recommend seeking expert advice without delay.
Hudson Weir are a team of experienced insolvency practitioners offering business turnaround and insolvency solutions. We also provide a range of personal insolvency services.
To discuss your needs or find out more information about our services, please don’t hesitate to get in touch with us.
