IR35 was introduced to crack down on perceived tax avoidance whereby individuals would seek to avoid paying employee income tax and National Insurance contributions by contracting through personal service companies (PSCs). The First-Tier Tribunal (FTT) decision in Paya Limited and others v. HMRC [2019] UKFTT held that the successive contracts under which three news presenters worked for the BBC demonstrated that each should be treated as in employment, and that, therefore, IR35 applied.

IR35 background

The aim of this legislation was to increase the collection of tax and National Insurance from individuals who supplied their services through an intermediary (normally a PSC) and paid themselves dividends instead of a salary. If IR35 applies to an individual, they will be obliged to pay National Insurance contributions and income tax as an employee, despite considering themselves a self-employed contractor.

IR35 will apply in cases where:

  • an individual personally provides services for a client;
  • those services are provided under arrangements involving an "intermediary" (this intermediary will usually be a PSC directly owned by the individual providing the services); and
  • the circumstances are such that if the arrangements had been made directly between the individual and the client, the individual would have been regarded as "employed" by the client for the purposes of income tax and National Insurance contributions.

To ascertain whether an individual would have been an employee of the client if they had been working directly for them, HMRC sets out certain guidelines including:

  • Personal service: an employee is obliged to provide their services personally.
  • Mutuality of obligation: for an employment relationship there must be the obligation on the part of the worker to provide his or her work or skill, and the obligation on the part of the engager to pay the worker for that service.
  • Right of control: an employee is subject to a certain degree of control by the engager.
  • Right of substitution: a self-employed worker would have a right to send a replacement or engage a helper.

Case background

The three appellants in Paya Limited and others v. HMRC were PSCs, formed by three news presenters to provide their services to the BBC. They operated on this basis for a number of years under a series of contracts between each PSC and the BBC. The issue in dispute was whether the relationship between the BBC and the presenters would have been a relationship of employment in the absence of the PSC. If it would have been an employment relationship, IR35 would apply and the presenters' income would be taxed as employment income.

The FTT held by casting vote that the arrangements between the PSCs and the BBC created an employment relationship and that IR35 applied.

Decision reasoning

The main principles behind the FTT's decision were based on its conclusions on mutuality of obligation, the degree of control exercised by the BBC and the requirement for personal service.

When considering mutuality of obligation, the FTT applied the long-established test set out in Ready Mixed Concrete, which considered the difference between a contract of service (where an individual is an employee) and a contract for services (where the individual is not). In this case, the FTT held that an employment relationship would have been created between the presenters and the BBC. This was because the presenters had been engaged by the BBC to provide their services continuously over a period of between five and seven years under a series of contracts with very similar terms. Under each contract, the BBC was obliged to call on the presenters' services on a minimum number of days and, if called upon, the presenters were obliged to be available on sufficient days for the minimum number of days to be met.

In relation to control, the FTT found that the BBC had an ultimate right of control over the presenters and that there was a framework of control with regards to what had to be done, when and where the presenters performed their services and, to some extent, the manner in which those services were performed. When assessing the degree of control held by the BBC over the presenters, the FTT took into account the fact that the presenters were required to attend meetings, training and appraisals and that the presenters were contractually obliged to adhere to the BBC's editorial guidelines. The FTT attached great importance to the fact that the BBC was able to prevent the presenters from working for another broadcaster and the presenters were, in effect, tied to the BBC when it came to carrying out their main business skill – presenting the news. In this vein, the FTT also found it highly relevant that two of the three presenters were economically dependent on the BBC for their livelihoods during the terms of the contracts.

In relation to personal service, the FTT found that the presenters had no meaningful right of substitution.

Tax perspective

The FTT also considered whether HMRC's determinations were "stale" and, therefore, invalid. However, it rejected the notion of "staleness" under Regulation 80(5) of the Income Tax Regulations, because the presenters would have been in no doubt from the point the discoveries were made that HMRC intended to issue the determinations. That meant the individuals could not object to the determinations as being too old.

Take-away points

Following this decision and a number of other cases since the introduction of IR35, it is ever clearer that the tax savings which many contractors have benefited from by using PSCs are under challenge. Even before the April 2020 changes come into effect, such savings will no longer be possible if, when looking behind the veil of the PSC, the relationship would satisfy the mutuality of obligations or control tests and, therefore, the contractors would be considered employees for tax purposes.

Currently, it is essential for contractors working in the private sector to get their tax status correct. Failing to do so could lead to significant financial consequences, in the form of fines and interest. From April 2020, this will be important to all medium and large companies in the private sector which use contractors – not just the contractors themselves. The new rules will require the end user/client to assess the status of contractors which provide services through a PSC and determine whether they should be treated as if they are employees (or inside IR35) for tax purposes. Payments to the PSCs may need to be processed through payroll. With this, income tax and employer National Insurance contributions become payable on the whole fee paid to the PSC. This could add an extra 13.8% cost to each invoice, as well as additional costs for administering the new rules introduced by the extension of IR35.