The Shifting Sands of IR35

Over two years after the introduction of new rules for determining IR35 status in the Public Sector one might expect that most organisations are clear on the new guidelines and very few falling fowl of the rules. We are not so sure that this is the case, partly because case law surrounding IR35 keeps ‘shifting the sands’ and partly because there remains so much misinformation that it makes it hard for Public Sector employers to understand what is true and what is not.

This week we saw the IR35 landscape change again.    In an on-going tribunal case between RALC Consulting, HMRC argued that ‘Check Employment Status for Tax’ (CEST) assessment should not be accepted as evidence as it is ‘irrelevant’ to the case – despite the fact that it has always claimed that it will stand by rulings from its own on-line tool as long as the questions were asked honestly.  This represents a massive u-turn in thinking by HMRC – but also throws into question the efficacy of processes for ensuring compliance which are heavily reliant on the use of the CEST tool.

In our experience, many organisations have used the tool as a ‘safeguard’ for demonstrating compliance.  This action by HMRC suggests that securing an ‘outside IR35’ ruling via CEST is no longer sufficient to demonstrate the status of a role. 

The reality, of course, is that the rules haven’t changed – just the perceived safeguard has been removed.   The CEST tool was never sufficient to secure an accurate ruling that will stand up in Court.  This is probably the first area where there is misinformation and misunderstanding:  CEST is simply HMRC’s interpretation of the rules.  In tribunal situations, decisions are based on Case Law and not HMRC’s interpretations, which means that CEST was only ever a ‘veiled’ safeguard’ and not a real protection against non-compliance.

Since its introduction, CEST has been heavily criticized for being a flawed tool for applying the core tests for IR35:

  • Substitution;
  • Mutuality of Obligation;
  • Control

and failing to explore some of the wider issues of Financial Risk and whether a person is working in a way that is ‘part and parcel’ of the organisation.  

Its biggest failing is lack of any attention to the issue of Mutuality of Obligation (MOO) – something which is key in many tribunal cases.   On Monday 1st July a ruling on the IR35 status of an NHS locum, ruled that IR35 applied to one assignment – but not another – with Mutuality of Obligation being the main distinguishing feature between the two decisions.  This raises further questions over HMRC’s own interpretation of the employment test as well as its decision to omit MOO entirely from the CEST tool.   

And, assuming that an outside of IR35 CEST ruling is a sufficient safeguard is not the only area of misinformation/misunderstanding that we have identified.   There remain organisations in the market purportedly providing vehicles for safeguarding public sector Authorities against IR35 which appear to suggest that using their services somehow removes the need for the Authority to take responsibility for making an accurate judgement.   This is not the case.   

The rules are clear: Clients (i.e. those for whom the service is ultimately being provided) have to provide a status determination to the party they contract with at the start of the contract. 

There is also a belief that as long as contracts define a ‘Statement of Works’ with milestone points,  or ‘Units of Work’ selected from a service catalogue, this assures compliance.  It does not.  Of course, these things can support aspects of IR35 compliance (particularly, clearly defined tasks against milestone delivery points and output based services that do not require a particular person to deliver them) but they do not, on their own, assure compliance.   What HMRC are particularly interested to observe is what actually happens on the ground.   There is no point a consultant operating through a Statement of Work and then deputizing for their manager in budget meetings or being part of a team that discusses the next phase of a project – beyond their contract end date – for which they are encouraged to hold dates in their diary.   The first action would indicate they are part and parcel of the organisation, the latter that there is mutuality of obligation.  Both issues could contribute to an ‘inside IR35 ruling at a Tribunal. 

It is this operational level that HMRC is focused on in its second round of visits to many public sector organisations.  They are particularly interested in how substitution actually works in practice and the extent to which Authorities have taken ‘reasonable care’ in making judgements.    This means they are likely to want to see evidence of consultants providing helpers or substituting for their services when they are sick and unable to work for an extended period.  They are interested in seeing what actions are taken if there is a problem on a project and the consultant cannot progress with tasks as planned (particularly actions for suspending payments during such times) and they will want to understand how and why judgements have been made – particularly where these have been queried by consultants and contractors.   They have already indicated they take a dim view of ‘blanket judgements’ across similar roles – and the recent tribunal case of the locum doctor demonstrates that taking such action is not appropriate as it the subtleties of how each role is conducted that needs to be explored rather than the contractual terms.

It is also suggested that the Authorities need to be mindful of the old adage – ‘if it seems too good to be true, it usually is too good to be true’.   Some suppliers have identified apparent ‘loopholes’ such as supplying services via outsourced vehicles or getting contractors and consultants to sign contracts to say they will pay the backlog of tax if a judgement is incorrect.   The first of these is something of a grey area as outsourced contracts that involve a labour supply are in scope, but those that do involve a labour supply are not.   Here the legal determination shifts from IR35 rules to the definition of labour supply – although where workers personally provide services to the public authority this is considered labour supply so it is hard to see what advantage can be gained here.   In terms of passing the buck to contractors, aside from the fact that it is a poor way to treat suppliers of services – there is no legal precedent to suggest whether this arrangement is permissible under law.    It would, therefore, only take one Tribunal that indicates that this is unlawful to render all such contracts void.

Ultimately, there is no ‘quick fix’ or vehicle to avoid IR35.  If a person is undertaking a role which is akin to employment then the role is within IR35 and Tax and NICs payable by the feepayer.  Determining whether or not this applies is the role of the end client and this can only be done on a case by case basis with the client working with both the contractor and their manager to fully understand the role and how it will operate ‘on the ground’.     It also requires managers and contractors to fully understand how their actions and behaviours can inadvertently place a role inside IR35 even if, on paper, it appears it is not.   Circumventing this process is, in our opinion, putting public sector clients at risk.

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