The production of the status determination statement and what happens to it after it is issued plays a pivotal role in deciding who is liable for any IR35 tax and NIC.
What is the SDS?
Under the revised form of IR35, the engager (referred in the law to as the ‘end client’) will decide whether a worker is caught by IR35 or not. However, only engagers who are themselves not ‘small businesses’ will have to do this, as Rebecca Seeley Harris explained in her analysis of the off-payroll working rules.
The engager must notify the worker of its decision about the worker’s status in a status determination statement (SDS). The SDS must explain the reasons for the decision and the engager must take reasonable care in reaching the decision. It is clearly envisaged that the SDS will be a written document.
The IR35 tests are not changing but the party liable for the tax and NIC, should IR35 apply, does change from April 2020 for large engagers.
Unless and until the engager provides an SDS to the worker personally, the engager will always be liable for any IR35 duties. Where, as will often be the case, the engager is contracting with an agency the engager can pass the SDS to the agency, with the result that the agency then becomes the liable party, as long as the requirement to give the SDS to the worker is complied with.
If the agency is contracting with another intermediary the agency can, in turn, pass the SDS to that intermediary, which in turn becomes liable to pay the tax.
The SDS is passed on through the supply chain until it reaches the personal service company (PSC). The buck eventually stops with the last person in the supply chain paying the PSC directly. The SDS can’t pass down to the PSC, so the PSC will no longer be liable for IR35 (unless the PSC has provided any fraudulent document to do with the employment status test).
The person who is liable for the IR35 tax (referred to as the ‘deemed employer’) must deduct PAYE tax and employee’s NIC from the payments they make to the next person in the supply chain as if the worker were on their payroll.
The law also permits anybody in the supply chain to pass on a deduction they have suffered to the next party in the chain. However, employer’s NIC liability, as well as the apprenticeship levy liability, remain with the deemed employer and there is no statutory right to deduct these liabilities, although in practice many deemed employers will probably do so regardless.
Challenging the decision
The new IR35 rules allow either the worker or the deemed employer to challenge the SDS and make representations to the engager who issued the SDS. The engager then has 45 days to either confirm, with reasons, why it upholds the SDS or to withdraw and replace the SDS with a revised decision. The draft law doesn’t say that such representations have to be in writing.
If the engager does not comply, the IR35 tax liability shifts back to the engager. Unlike the pass-the-buck procedure with the SDS, it appears from the current draft law that this liability shift is final and conclusive: it can’t be corrected by complying with the process outside the 45-day window once the deadline is missed.
The clock starts ticking upon receipt of the SDS challenge, which is a problem for agencies in the chain. For example, an agency might believe it is liable for the IR35 tax and thus entitled to make PAYE deductions. But that agency won’t know whether a worker has challenged the SDS issued by the engager, or whether the engager has responded.
In recent cases, HMRC has consistently got IR35 wrong. However, engagers are expected to make an accurate status determination in this notoriously complex field of law.
The revised IR35 rules seem designed to nudge engagers towards using HMRC’s check employment status for tax (CEST) tool.
The CEST tool may provide a reasoned conclusion on IR35 which would satisfy the SDS requirements. However, in many cases, the CEST tool returns an “unable to determine” conclusion. This is not an option open to the engager. An equivocal conclusion is not a valid SDS – the legislation expressly prohibits any sitting on the fence.
However, the CEST tool leans incorrectly towards disguised employment, as it doesn’t take into account the fundamental characteristic of any employment relationship, which is the degree of mutual obligation to offer and accept work (the MOO).
Implications of getting it wrong
Engagers making IR35 decisions that are too harsh or cautious will be incorrectly imposing employer’s NIC and apprenticeship levy liabilities on themselves or others, and therefore will face inevitable commercial problems engaging contractors to do work.
The engager will also have to provide the worker directly with an SDS. It will be interesting to see the response of contractors who are given a document telling them that they are being engaged as a ‘disguised employee’ without any employment rights.
If engagers get things unreasonably wrong the other way, they risk a retrospective IR35 tax liability, as well as penalties for carelessness. The engager may also have missed the opportunity to recover those liabilities from the contractor’s PSC under PAYE, or to pass the liability obligation on to an agency.
The draft Finance Bill clauses give HMRC the power to make regulations to allow it to recover IR35 debts from anybody who is party to the arrangements. This would encompass the engager, the agency or any other intermediaries in the supply chain, the PSC and the worker. However, the precise circumstances of debt recovery are not yet known.
Preparation is key
All parties in the supply chain will need procedures to ensure that an accurate SDS is made, passed on to the correct parties at the correct time and that any challenges to the SDS are dealt with and communicated properly. All this will need to be carefully documented in the case of any dispute about the tax liability.