It’s been two years since the IR35 off-payroll legislation was revised. From April 2021, medium and large-sized organisations became solely responsible for determining whether a contractor(s), engaged via a Personal Service Company (PSC), would be considered an employee if it were not for the existence of the PSC in the contractual chain.
So how is HMRC seeking to enforce compliance by engagers? What are the challenges faced by businesses in complying? And how can employers prepare for an HMRC compliance review?
HMRC’s approach to compliance
For the first tax year (2021/22) of the revised legislation, HMRC agreed to take a light-touch approach to compliance. This was a welcome reprieve for many businesses who were attempting to be compliant.
However, as we enter the 2023/24 tax year, HMRC is ramping-up its compliance activities. Despite this, where a business can demonstrate they’ve taken ‘reasonable care’ HMRC is unlikely to seek penalties if anything has gone awry. Reasonable care would typically include the creation of robust processes, policies and evidence to suggest that these are actively monitored.
Information gathering by nudge
Most recently we have seen HMRC issuing “nudge letters” to employers requesting numerous pieces of information regarding their engagement of contractors.
These letters give businesses just 30 days to respond to requests for information such as:
- How many contractors do you engage either directly on a self-employed basis or via a PSC?
- Have you confirmed the employment status of those engaged and have supporting evidence?
- As a result of employment status assessments concluding “deemed employee” status, how many contractors have been added to the payroll?
While HMRC suggests this approach is intended to be supportive of businesses, these “nudge letters” can be a challenging and expensive exercise for businesses.
Reasons for this include:
- The time required to collate this information and respond to HMRC’s request (not responding to a nudge letter may not be terminal, but certainly is a high-risk strategy).
- The discovery of any errors and subsequent corrections is likely to take more time and give rise to income tax and NIC liabilities.
- HMRC will seek interest on any PAYE and NIC underpayments, with the possible addition of tax-geared penalties unless reasonable care has been demonstrated in all aspects of their approach to IR35 compliance – which includes having robust processes and policies in place.
- If there are penalties, these will be higher following a nudge letter as any corrections will be classed as ‘prompted’ disclosures rather than ‘unprompted’ corrections.
Managing your risk
There are several ways a business can start to prepare for and mitigate the risk of a negative review and at the same time demonstrate reasonable care:
- Identifying contractors
Proactive monitoring of supply chains to identify contractors should form part of an ongoing review process. Where such processes are established, this would also allow the business to prepare a quicker and more informed response to any “nudge letters” received from HMRC.
- Processes and Controls
Establishing a clear process and obtaining stakeholder buy-in is often key to managing the tax risk effectively. Any process/control(s) established need to be robust insofar as they cover most day-to-day scenarios, yet flexible enough to enable exceptions as and when they occur.
- Training
The engagement of contractors within the business often involves numerous stakeholders. Therefore, it’s vital that adequate training is rolled-out and continues to be available to ensure that all employees who may engage a contractor understand the process and related risks of non-compliance.
- Internal reviews
Businesses should be periodically reviewing their processes to ensure compliance internally. This can involve reviewing whether employment status assessments have been completed accurately and consistently, and ensuring they’re reviewed periodically over the course of an engagement. In addition, it is important to confirm if payroll obligations have been met, whether that be internally or via a third party.
- Policies
Finally, businesses should develop policies which demonstrate a clear understanding of the legislation, how the business applies the legislation to its specific needs and identify the key internal stakeholders. Maintaining documentation is key to enabling the business to demonstrate that reasonable care has been taken in the event of any future review by HMRC.
Pre-empting a nudge from HMRC
Those organisations that are not up to speed with managing their risk should consider engaging an external party to carry out a risk review.
An external review can help identify shortcomings so that they can be put right and any inherent PAYE and NIC liabilities paid voluntarily. Not only does this reduce the risk of significant financial penalties following a nudge from HMRC, but it will give the organisation a clean bill of health – which can be so important if a sale of the business or other corporate transaction is envisaged.
HMRC knows that many businesses will have struggled to implement the off-payroll labour rules and that there may be rich pickings for its enforcement activities. Organisations that are not compliant may face hefty costs in future.
Jacqui Roberts is a director in BDO’s Global Employer Services team
