Contractors should include a right of substitution clause in their contracts to try to ensure remaining outside of IR35.
If you are providing a service, and not employment, then another contractor like yourself who is able to provide the same service should be able to take your place. It’s a fundamental step toward assuring that you remain outside IR35.
Why substitution is a huge factor for IR35
If you don’t have such a clause, the reverse may be argued; that you cannot be substituted for, and are therefore providing personal service and are an employee.
A genuine right of substitution is a very important factor in determining self-employment status. However it is only one part of the picture that the court will draw when making its determination. The court will look at all the aspects of your relationship with the client, not just substitution.
Since IR35 became law in April 2000 many contractors have managed to negotiate a "contract for services" with their clients, and this has included a substitution clause. In the beginning this was an excellent defence to any HMRC challenges. However, they then began mounting challenges claiming that the clauses were not valid in some cases, and were in fact a sham.
Is the substitution clause valid?
For a substitution to be considered valid the following keys aspects need to be present:
- The client actually needs to agree to it.
- The contractor must pay for the substitute
- It should be an unfettered right - the client cannot vet any replacement
Provided all the above are in place then this is a solid defence. To strengthen this further, and to almost give a cast-iron guarantee that it is valid - actually do one. Arrange for it to take place. It has been known for contractors to do this during an actual investigation, and blow the HMRC case out of the water.
So, ask yourself, can someone else really substitute for you? If you are a famous television personality, a world-renowned expert on a recondite subject, or the last-surviving programmer in a software language that no one uses anymore, the court is likely to rule that you have no possibility of substitution.
On the other hand, if you have the right to replace yourself with another worker who has much the same skills that you do, then you are obviously not providing the services 'yourself,' as an employee would, and so you have a good chance of succeeding in proving that you are outside IR35—at least, in that case, the clause would be an important factor in such an argument.
Why the client must not restrict the substitute
Equally important is the issue of control. Does the client decide who the substitute is, or do you? Does the client have the power to refuse the substitute? If the client has too much control over the substitution process, the court may claim that the client is simply looking for another employee like yourself. So you must retain the right to find and provide the substitute yourself in the contract.
Another clause to avoid would be one involving client approval or satisfaction, usually worded: 'the right to substitute another representative of the Company to provide the Services provided that the Client is satisfied that the proposed substitute possesses the necessary skills, expertise and resources to perform the Services'
This isn’t necessary because if the client isn’t satisfied with the substitute’s services, then your company is responsible no matter what. There is the possibility of breach of contract. You should at no time suggest that the client has control over the provision of services that you make.
A more relevant term would be to say 'any costs incurred in providing a substitute will be at the expense of the Company.' That nullifies the risk of sending in the substitute who cannot do the job.