Are you a contractor providing services to an organisation in the private sector? If you’re responsible for paying your own tax and National Insurance under the off-payroll working rules (IR35), are you complying with Managed Service Company (MSC) legislation?
Off-payroll working rules can apply if you’re a contractor providing services to your client through your own limited company or an intermediary. The rules ensure that in a situation where you’d have been an employee if you’d provided your services directly to your client, you pay the same Income Tax and National Insurance as an employee.
To prevent companies from using off-payroll working to avoid paying taxes, the government introduced MSC legislation in April 2007. The new rules made it illegal for organisations to introduce a company into a contractual arrangement and operate as an MSC provider to evade their employment responsibilities.
Until last year, if you were a contractor working with an organisation in the private sector, the burden of proof to determine your employment status for tax purposes lay with you. But this changed in April 2021. From this date, responsibility for applying the rules and determining the employment status of contractors transferred to the client company – bringing them into line with organisations in the public sector.
Just over a year on from this most recent change, there’s evidence that HMRC is proactively prosecuting the legislation, scrutinising the relationships some big organisations have with contractors.
In the last few months, HMRC has opened enquiries into a number of private sector organisations it believes to be operating as MSC providers. If this point is successfully proved, any contractors working with these organisations will be classified as managed service companies. In anticipation of this outcome, HMRC has written to many current and former contractors, issuing protective determinations for tax liabilities they claim are due.
Initially, HMRC’s crackdown on abuse of MSC legislation appears to target very large, high-profile private sector organisations. If, however, as seems very likely, their investigation is extended to look into the sector more widely, it may have implications for thousands of contractors, impacting how much Income Tax and National Insurance Contributions they pay and how they pay them.
If HMRC finds that the organisation you’re working with is an MSC provider – and therefore, your business is a managed service company, you’ll be liable to pay full income tax and National Insurance Contributions on the fee income you receive from the company in just the same way as if you were an employee.
What is a Managed Service Company?
HMRC sets out four conditions that must be met for an organisation to be a managed service company:
- The company’s business must consist wholly or mainly of providing a contractor’s services to clients – either directly or through an intermediary
- The contractor must be paid more than the company receives in fees and overheads
- The payments received by the contractor are more than they would have received if they’d been employed by the company
- There must be an individual who is the ‘MSC Provider’, and they must be involved with the company
How can you tell if you’re working for an MSC provider?
The only way to be certain you’re operating within the rules is to take advice from an employment law professional. But some key indicators should sound alarm bells and might indicate you’re working with an MSC provider, including where your client:
- Controls, or attempts to control, the provision of your services to their client
- Controls your limited company’s finances and bank accounts
- Doesn’t include you in discussions when negotiating contracts
- Insists on holding a position such as a director or company secretary in your limited company
- Has financial connections to an intermediary providing your company with work
- Is involved in services that influence the control of your limited company.
This is a complex area. From our own experience working with many owners of micro businesses, it seems that the larger an organisation is, the more likely it will take a conservative approach to the rules. Contractors will be paid in the same way as employees – but will have none of the associated benefits or rights.
Add to this the fact that some organisations are almost certainly using confusion around the rules and a lack of job security in the ‘gig economy’ to their advantage, and it’s easy to see how some contractors could find themselves paying more Income Tax and National Insurance than they may need to.
What are the latest developments in IR35?
We asked Anita Kalra, Employment Lawyer for Kalra Legal Group – and Inca strategic partner, to share her thoughts on how the legislation is being interpreted by the courts:
The case of HMRC -v- PGMOL reached the Court of Appeal in 2021. It concerned the employment status of referees and whether they were employees or self-employed. The referees were parties of an overarching contract and an individual contract, both of which were considered as part of this case. The take-away point from this case is that a single engagement (contract) can give rise to a contract of employment.
HMRC -v- Atholl House Productions Ltd was one of two appeals heard in the Court of Appeal in April 2022. Focusing on this case, it concerned TV and Radio presenter Kaye Adams’ employment status. HMRC argued she was an employee of the BBC. The hearings can be summarised as follows:
- HMRC found that Ms Adams was an employee of the BBC and therefore liable to back pay taxes
- First Tier Tribunal: Atholl House Productions Ltd successfully appealed HMRC’s decision. The Tribunal set out a test clarifying that a person should be considered an employee where:
- There is mutuality of obligations between the parties;
- There is sufficient control; and
- Where 1 and 2 are satisfied, there are no other factors to displace the con
The BBC did not exercise sufficient control over Ms Adams. The Tribunal also found that the contract did not accurately reflect the agreement between the parties – and even if it did, the hypothetical contract would not be a contract of employment.
- Upper Tribunal: HMRC unsuccessfully appealed the previous decision. The Tribunal held that the previous First Tier Tribunal decision failed to follow the normal rules of contractual interpretation set out by the Autoclenz case. Despite this, they found no contract of employment in place as the hypothetical contract was business on her own account. This is where a contractor enters into a contract as a business as opposed to a worker.
- Court of Appeal: HMRC appealed the decision further. The Judgement supported the opinion that the correct test is mutuality of obligation, control, and no other factors to displace a conclusion that the individual is an employee. The case was passed down to the Upper Tribunal for reconsideration.
We now have some clarity on the correct test to apply, however it is certainly worrying that it has only emerged after several appeals. If the Tribunal’s cannot apply the law correctly, what hope does an independent contractor have? Following this case in particular, many practitioners and commentators have called for a statutory framework on IR35 to avoid uncertainty and great expenditure of taxpayer funds.
The best way to avoid disputes of this nature is to ensure your contract in place reflects the true relationship between parties. We would highly recommend in these situations you speak to an Employment Solicitor. Anita Kalra, Employment Lawyer, Kalra Legal Group
If you’re a consultant working in the private sector, you should have an employment law professional review any contracts you have with your clients. Having examined the terms of your contractual arrangements and the nature of your relationships, they’ll be able to provide advice to ensure you’re complying with MSC regulations.
If you have a question regarding any aspect of your business or personal tax, get in touch with one of our advisors today. Get in touch with us today. Call us now on 01235 868888 or contact us by email at [email protected]