New IR35 set-off mechanism not a ‘golden ticket’ warns tax expert

The Revenue has been consulting on the new IR35 tax liability offsetting legislation. The technical consultation has sought views on draft regulations and draft guidance for a mechanism by which HMRC, when recovering tax due under PAYE from a deemed employer following non-compliance with the IR35 off-payroll working rules, would be able to account for taxes already paid by the individuals or their intermediaries on the income. It’s an issue we covered in this programme in November last year following the Autumn Statement 2023 when Chancellor Jeremy Hunt announced that an off-set mechanism would be introduced. 

The consultation has been a short one, running from 25 January to 22 February, and the government is now analysing the feedback from it. As the government states clearly on its website, this is a development that affects large and medium sized businesses, including end users of course, and they say it will be of interest to HR managers and those who deal with recruitment processes and payroll. 

The key point to take from the draft guidance is that individual workers will need to be identified. That could be tricky, potentially, for businesses which are facing enquiries from HMRC regarding the status determinations of a large number of contractors and, of course, many of our clients fall into that category – end users with hundreds of contractors on their books. So, let’s get a view on that. Penny Simmons is a tax specialist and has been following this closely and earlier she joined me by video-link to discuss this latest development: 

Penny Simmons: “Thanks, Joe. Yes, we've got the draft guidance and what the guidance envisages is that the Revenue, and the deemed employer - so that's the client who has to apply the IR35 rules -  will have to identify the workers so that they can in turn be identified by the Revenue and you can say well actually these workers have paid this amount of tax and the Revenue can look at their tax records. So, we're in a situation whereby the set-off mechanism as drafted, and according to the draft guidance from the Revenue, will only work for businesses where they're in negotiations with the Revenue and they can identify specifically the workers for which the status determinations were incorrect and so, therefore, which workers have been deemed to be outside of IR35 but were actually inside IR35 so the Revenue can actually identify specific amounts of tax in order to set off the amounts owed by the client business.”

Joe Glavina: “As I understand it, Penny, your message to clients has been to caution against seeing the set-off mechanism as a golden ticket and instead to focus on managing IR35 compliance programmes so that clients don’t have to consider asking HMRC to use the set off mechanism. Can you explain your thinking on that?”

Penny Simmons: “So, I think we need to be clear, Joe, that there are two issues at stake. Where a large business - and we know that the changes to the IR35 rules apply to the public sector and large and medium businesses so actually small businesses are outside the scope of the changes to IR35 -so where a large business engages with hundreds of contractors and, myself and my colleagues, we work with businesses all the time that engage with hundreds of contractors, so where they're engaging with hundreds of contractors and those contractors are engaged through limited companies, and they've had to make status determinations under IR35, if an inquiry is launched, if you like, by HMRC into their IR35 compliance they won't necessarily be looking at individual workers. They may well be talking to HMRC and taking a sample of those workers, so reviewing a sample of status determinations for a pool of workers, not for the entire population. So, if they are in a situation like that where they're in discussions with the Revenue, the set of mechanism won't work well for those kinds of businesses because it will only work if, as part of their discussions with HMRC, they are able to agree and identify specific workers and then, if you like, take the value of tax paid by those workers and somehow apply that to larger populations. So, with larger businesses, with discussions with HMRC, you'd envisage kind of looking at a sample of workers rather than reviewing hundreds of determinations.”

Joe Glavina: “You’re advising clients to review their IR35 compliance programmes, Penny, and saying how this is a good time to carry out that exercise. Why is that?” 

Penny Simmons: “So, businesses are expected to manage their populations of IR35 workers and undertake a status determination of those workers prior to engaging with them, certainly prior to paying them, and checking are they inside or outside of the IR35 rules and taxing them accordingly. Whatever a business will have done back in 2020/2021 in order to prepare for the rules that were introduced in April 2021, businesses need to review and to monitor those rules and check that they're working as intended. So, they need to be reviewing those status determinations and checking that they're happy with them because when conversations start with the Revenue, the Revenue will be asking, well, can you tell me about your IR35 processes? Can you tell me about how you make status determinations? Can you tell me how you identify IR35 workers in your contractor population? So, businesses need to be able to show the Revenue that, and not rely on the fact that if the Revenue knocks on their door to speak and wants to have a conversation about their IR35 compliance, that they have it in the back of their pocket that, oh, it's okay, because this set-off mechanism exists and we know that our contractors are paying tax for those outside IR35 so even if the Revenue disagrees with our determination, we'll just be able to show them that our contractors pay tax. It’s not the golden ticket because when you're dealing with thousands of contractors that means a lot of paperwork, and a lot of compliance, to provide the Revenue with the individual identity of thousands of workers in order to make the set-off mechanism work as it's currently intended.”

Joe Glavina: “So, finally Penny, what help are you giving clients at the moment around IR35?”

Penny Simmons: “So, I work with clients in a whole host of ways in relation to IR35 from introducing IR35 compliant procedures and making sure their supply of labour agreements manage IR35 risks appropriately, to helping businesses that are engaged in discussions with HMRC around their historic IR35 compliance. So really, I'll help businesses right from the very beginning up until the very end of that IR35 compliance story and that's really why, Joe, my message to businesses is, and always has been, make sure that you get the compliance programme right at the start because if the Revenue then does launch an inquiry - and we know that the Revenue are launching lots of inquiries - it makes that discussion with the Revenue much easier if you can very quickly and easily demonstrate that you had a robust IR35 compliance process, are able to identify IR35 contractors, you've made status determinations, you can show why those status determinations are accurate and, therefore, why the rules have been properly complied with.”

A reminder. The government’s consultation closed on 22 February and, given it’s a technical consultation, we don’t expect many changes to the guidance or the draft regulations but as soon as the government gives its response we will return to this and hear again from Penny, no doubt. 

LINKS
- Link to IR35 consultation: Calculating PAYE liabilities in cases of non-compliance for off-payroll working (IR35)