The 2021 amendments to the IR35 legislation have resulted in many end clients shying away from the risks that come with engaging limited company contractors.
Some companies decide to take the route of outsourcing the required work to a third party, which then places the burden of the IR35 decision making on the third party service provider. This is because the outsourced provider becomes the true end client receiving the services of the contractor, and therefore the decision maker for the purposes of IR35 legislation.
It has to be remembered that for services to be a genuinely outsourced provision, the contractual documentation has to be set up in the correct way. This is important as HMRC’s guidance states:
“Whether a contract is for a fully contracted out service is a question of fact, based upon the commercial reality of the arrangements. Care should be taken to ensure that a labour supply contract has not simply been re-labelled as a managed service. For example, labelling a contract as a contracted out service or a ‘statement of work’ when in reality the contract contains a provision for labour will not prevent the off-payroll working rules from applying, and the reality of the arrangements should be considered.”
Though there is no exhaustive list of what makes an outsourced provision genuine, we would expect the following to be present:
- Detailed statement of works, including key dates and deliverables
- Fixed pricing
- ‘Fully packaged’ service
- Provision of goods and materials
- True intention for the service to be outsourced
The following point away from outsourced provision:
- Any indication that there is a supply of labour
- Individual names/roles/rates
- Employment terminology
The lower contract between the outsourced provider and its subcontractors should make no mention of the service user.
Let’s take a scenario where a business requires IT services; One Limited wishes to outsource their IT department to lower costs. One Limited engages Blue Limited to provide IT services for 12 months at a fixed price. The contracts between the parties show that Blue Limited is responsible for the entirety of the services.
Blue Limited determines who they engage to help provide the services, how the services are provided and will make available all the necessary equipment. So while on a day-to-day basis One Limited may have contact with the workers (after all, they will be providing technical advice and resolving IT issues), One Limited has no control over the workers.
One Limited has no say in any internal staffing or resourcing issues. This means that any complaints go directly to Blue Limited whose responsibility it is to ensure that their customer, One Limited, is satisfied with the service.
This is a genuine outsourced provision, and therefore Blue Limited is responsible for determining the IR35 status of any limited company contractors it engages. Blue Limited has to look at the contracts and working practices of all its contractors and issue SDS documents to them.
Small Company
If Blue Limited were a small company (as defined by Companies Act 2006), they would be subject to the small companies exemption. To qualify as a small company, two of the following conditions must be met:
- annual turnover must be not more than £10.2 million
- the balance sheet total must be not more than £5.1 million
- the average number of employees must be not more than 50
Small companies are not required to consider Chapter 10 ITEPA 2003; it will be up to the limited company contractors to determine their status.
People or Services?
On the other hand, had One Limited requested web designers, managers, systems administrators and support engineers, this would not have qualified as an outsourced provision. Especially if One Limited retained control over the workers or requested specific individuals. In this scenario, Blue Limited is providing people to fill roles, not services.
One Limited would be the decision maker responsible for the creation of the SDS, and Blue Limited would be the fee payer responsible for the correct deductions.
Reality check
The reality of the arrangements will take precedence over the label applied to it by the parties. Labelling a service a ‘contracted out’ service will not prevent IR35 rules from applying, and will not prevent HMRC from picking apart the engagement and asking questions.
Incorrectly treating services as contracted out services may result in penalties of up to 70% of the tax loss to HMRC.
It is far more prudent to thoroughly check the contractual documentation and arrangements from the outset than receive an unwanted tax bill.
