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Business Services  •  Business Tax  •  Payroll Tax  •  Personal tax

IR35 changes – understanding the difference between subcontracting and substitution

By RJP LLP on 24 February 2022

If you are a contractor you will be aware of changes introduced recently to the IR35 legislation. Being caught by IR35 can mean a lot of extra tax to pay, so it is well worth being on top of what are increasingly complex regulations.

One of the key tests for checking whether IR35 applies to your company is to review whether you are providing ‘personal services’ i.e. whether you as the company shareholder/ director are offering your own personal services, albeit through an intermediary like an employment agency, or not. A question to ask is whether there is scope to substitute someone else on your behalf, either within the terms of contract or in practice? Having a genuine right of substitution is the most straightforward way to demonstrate that you are not an employee and so not caught by IR35.

In any employment relationship, the element of personal service is always present. If you work for someone else, you can’t just substitute a colleague in order to take a day off. In the event that this was possible (and acceptable), you could argue that IR35 does not apply. A former HMRC Tribunal case between Express & Echo Publications Ltd and Tanton highlighted that where a worker had the genuine right to send a replacement (a substitute) if they are unwilling or unable to provide their services, this was not consistent with employment and therefore contracts are not caught by IR35.

Understanding HMRC’s definition of ‘true substitution’

According to HMRC, this means a provider engages another contractor or business to perform an entire range of services during the period when the original provider is unavailable. A separate agreement is then held between them, and the entity that engaged the substitute is responsible for ensuring the service is delivered and for paying the substitute.

If an agency or the original client sources and pays for the replacement, this is not regarded as true substitution by HMRC. If you are an independent business completing a piece of work, you will need to demonstrate to HMRC that in situations where you cannot fulfil the contract, you remain responsible for ensuring that your client receives the services, by providing and paying for an alternative consultant.

An IR35 case between Usetech Ltd v Young illustrates this point. Here the worker had the right to send a replacement, but the agency was required to interview the replacement first. The substitute then had a separate contract with the agency, and the end client specifically wanted that substitute – there was no flexibility over sending another alternative contractor. If the substitute was not available, the process needed to be repeated to find another suitable provider. There was no freedom to decide who performed the work and therefore an element of ‘personal service’ was present – the arrangement was caught by IR35.

What this highlights is that just having the right to substitution may not on its own be enough to demonstrate that no personal service is required, because the necessary conditions for that substitution may not be met.

If you are a business using contractors or consultants and want to discuss any tax planning matters please get in touch via partners@rjp.co.uk.

 

 

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If you are a contractor you will be aware of changes introduced recently to the IR35 legislation. Being caught by IR35 can mean a lot of extra tax to pay, so it is well worth being on top of what are increasingly complex regulations.

One of the key tests for checking whether IR35 applies to your company is to review whether you are providing ‘personal services’ i.e. whether you as the company shareholder/ director are offering your own personal services, albeit through an intermediary like an employment agency, or not. A question to ask is whether there is scope to substitute someone else on your behalf, either within the terms of contract or in practice? Having a genuine right of substitution is the most straightforward way to demonstrate that you are not an employee and so not caught by IR35.

In any employment relationship, the element of personal service is always present. If you work for someone else, you can’t just substitute a colleague in order to take a day off. In the event that this was possible (and acceptable), you could argue that IR35 does not apply. A former HMRC Tribunal case between Express & Echo Publications Ltd and Tanton highlighted that where a worker had the genuine right to send a replacement (a substitute) if they are unwilling or unable to provide their services, this was not consistent with employment and therefore contracts are not caught by IR35.

Understanding HMRC’s definition of ‘true substitution’

According to HMRC, this means a provider engages another contractor or business to perform an entire range of services during the period when the original provider is unavailable. A separate agreement is then held between them, and the entity that engaged the substitute is responsible for ensuring the service is delivered and for paying the substitute.

If an agency or the original client sources and pays for the replacement, this is not regarded as true substitution by HMRC. If you are an independent business completing a piece of work, you will need to demonstrate to HMRC that in situations where you cannot fulfil the contract, you remain responsible for ensuring that your client receives the services, by providing and paying for an alternative consultant.

An IR35 case between Usetech Ltd v Young illustrates this point. Here the worker had the right to send a replacement, but the agency was required to interview the replacement first. The substitute then had a separate contract with the agency, and the end client specifically wanted that substitute – there was no flexibility over sending another alternative contractor. If the substitute was not available, the process needed to be repeated to find another suitable provider. There was no freedom to decide who performed the work and therefore an element of ‘personal service’ was present – the arrangement was caught by IR35.

What this highlights is that just having the right to substitution may not on its own be enough to demonstrate that no personal service is required, because the necessary conditions for that substitution may not be met.

If you are a business using contractors or consultants and want to discuss any tax planning matters please get in touch via partners@rjp.co.uk.