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The Cost of Being Inside IR35

How much more do you pay when inside IR35/employed for tax purposes?

Since the legislation was introduced in 2000, contractors have tried to ensure that they are engaging in an ‘outside IR35’ manner. This means that they can operate as a genuine business, paying themselves a salary and the remainder of their earnings as dividends which attracts less tax.

Whilst the majority of contractors are considered genuinely so for tax purposes, not everyone can operate in this manner. Some healthcare workers, for example, are notoriously difficult to prove outside IR35 due to the nature of their role in a hospital/GP practice.

Being inside IR35 is considered negative by most due to the financial implications - a contractor operating as inside of IR35 will pay more tax than an employee, as they will be responsible for both employee and employers NIC - but as long as you are paying the appropriate taxes in relation to your status for each engagement, you will remain compliant with the rules.

Below is an outline of what a contractor earning £400 per day, working for 220 days over the year would pay should they be considered outside IR35 in the 2019/20 tax year, and assuming all remaining income is drawn as dividends by one shareholder: 

   DEDUCTIONS   INCOME 
Income from engagement:     £88,000.00
Tax-deductible expenses (example amount):  -£5,000.00  
Salary (usually up to NIC threshold):  -£8,632  
     £74,368.00
Corporation Tax @19%  -£14,129.92  
Tax on Dividends  -£8,795.28  
TOTAL TAX DEDUCTIONS  -£22,925.20  
TOTAL TAKE HOME PAY (including salary)     £60,074.80

 

Below is an outline of what this contractor would pay should they be considered inside IR35 prior to IR35 reform in April 2020 assuming all engagements were considered inside IR35 and based on 2019/2020 rates and allowances:

   DEDUCTIONS   INCOME 
Income from engagement:    £88,000.00
5% expenses allowance:  -£4,400.00  
Salary (usually up to NIC threshold):  -£8,632  
 Deemed Payment    £65,876.98
 Taxable Income    £74,508.98
Employers NIC (additional payment to be made)   -£9,091.02  
Additional Employees NIC  -£5,454.34  
Additional Income Tax  -£17,303.59  
TOTAL ADDITIONAL TAX DEDUCTIONS  -£31,848.95  
TOTAL TAKE HOME PAY  £51,751.05

Please note that you can still claim for certain other expenses when inside IR35 in addition to the 5% allowance – click here for more information.

In April 2020 contractors will see the introduction of the new off-payroll working rules (IR35 reform), whereby the onus of determining IR35 status will fall with all medium and large sized end clients in the private sector (rules already in place in the public sector).

As well as shifting the responsibility for determining status, the liability will also shift. The IR35 liability will remain with the end client until they have provided their status determination. At that point the liability then moves to the fee-payer, usually the agency, who will be responsible for deducting any relevant tax and NICs prior to paying you your fee.

After the reform, there will be two key changes in how this is calculated:

  1. Contractors will not be entitled to the 5% expense allowance
  2. The agency will become the employer for tax purposes and therefore liable to pay the Employers NIC (please note that in many cases agencies may adjust rates to accommodate for this and therefore you may not see the benefit)
   DEDUCTIONS   INCOME 
Income from engagement:     £88,000.00
Employees NIC  -£5,724.16  
Income Tax  -£22,700  
TOTAL TAX DEDUCTIONS  -£28,424.16  
TOTAL TAKE HOME PAY    £59,575.84*
Expenses  -£5,000  
ADJUSTED TAKE HOME PAY     £54,575.84

 

*It can seem that working inside IR35 following reform is relatively beneficial, but it is important to note there are many other factors following reform which will make this highly unlikely. You may still incur the cost of expenses which you are unable to claim when operating outside IR35 for example, as demonstrated above. Fee-payers will also be unlikely to absolve the cost of the Employers NI (over £10,000 in this example) and so this cost will likely be accounted for via adjusted day rates, or you may be required to operate via an umbrella company.

It is important for contractors to bear in mind that this calculation is based on one year. Should a deemed payment be calculated as a result of an investigation, your liability would increase depending on the number of years under enquiry and any additional interest and penalties added.

Contractors should therefore consider obtaining insurance cover to protect any investigation into previous years, such as the Qdos Tax Liability Cover policy which provides fully retrospective cover.


INCOME

INCOME

INCOME

-£22,925.20


INCOME

-£4,400.00

-£4,400.00

INCOME

-£22,700

By:Becci Walker

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