It is generally well understood that if someone is an employee the company is responsible for deducting income tax and national insurance and accounting for this to HM Revenue & Customs (HMRC). By contrast if someone is self-employed they have the responsibility for accounting to HMRC for their own tax and national insurance (i.e. it is not the company’s responsibility).

The starting point with contractors is no different, a company must ascertain whether the contractor is an employee or self-employed. Often though contractors will not be engaged directly and in some industries it is very common for contractors to set up their own personal service company. In these situations the contract will between the company requiring the services and the personal service company.

Given that the personal service company cannot itself be an employee from the company’s perspective this would seem to eliminate the risk of needing to deduct income tax and national insurance from the payments made to the service company. However, in certain circumstances the company may still have a liability.

HMRC recognised the risk that personal service companies and other intermediaries posed to the tax base and came up with what has been known as IR35. In essence this asks whether, but for the interposing of the personal service company, the individual have been regarded as an employee of the company engaging them. If the answer to this is yes then the personal service company has to account to HMRC for income tax and national insurance on the payments received from the company.

If the personal service company does not account for the tax and national insurance then HMRC can chase the director(s) of the personal service company and, if the personal service company is an offshore company, seek to recover the tax and national insurance from the company that has engaged the services.

HMRC is concerned that perhaps IR35 hasn’t been as successful as it ought to have been. Accordingly, on 17 July 2015 they released a discussion document “Intermediaries Legislation (IR35)” to consider changes that might be made. Proposals being considered include shifting the responsibility for accounting for income tax and national insurance, if IR35 applies, to the company engaging the services rather than the personal service company.

Whether HMRC would be prepared to go that far and expose companies to the additional compliance burden remains to be seen. However, companies would be wise to consider more carefully as to whether contractors would be regarded as employees if they were engaged directly.