Your contractual agreement (the paperwork) will be a key component of a successful defence against an IR35 investigation. But in rare instances it could also be deemed worthless and overridden in court by a tribunal judge. The difference between the two could be thousands of pounds in taxation, penalties, and IR35 defence costs.
- Your written contract is king - and takes precedence over your working conditions
- HMRC could (but rarely do) challenge your contract on the basis that it is a ‘sham’
- Contractual clauses that are unrealistic might be given little weight by a court
- Clauses which are ambigious could be misconstrued against you
- A tight contract will help shut down an investigation. A bad contract will invite one
Here we explain why your contract is important, and how you can ensure that it helps you avoid a protracted IR35 investigation.
IR35 – when is a contract considered a ‘sham’?
A contract that doesn’t reflect the working arrangements could be dismissed in court by a judge, who will always consider the hypothetical contract – which will reflect how the working relationship works in practice.
The Supreme Court case of Autoclenz v Belcher (2011) was a landmark case that set legal precedent, enabling future judges to set aside contracts in favour of the reality. The judge in this case upheld the ruling that 20 individuals were employees and not self-employed, as their contracts suggested. But, for tax cases don't be alarmed.
Dave Chaplin, CEO of IR35 Shield, a consultancy specialising in IR35 matters said: "For years, Autoclenz was used in IR35 cases, as a way for either HMRC or the taxpayer to claim that the written contract wasn't quite what the 'true agreement' was. However, that approach finished on 26th April 2022, once the ruling for the Commissioners for Her Majesty's Revenue and Customs v Atholl House Productions Ltd was published.
In Atholl House, the Court of Appeal explored the Autoclenz issue and whether it applied in tax cases. The justification for using Autoclenz, as analysed and identified by the Supreme Court in Uber, for the application of the approach approved in Autoclenz was not found to be present in IR35 tax cases. Therefore, the court ruled, it was not legitimate to apply the Autoclenz approach. Hence, for IR35, contracts are king. In fact, the Court of Appeal ruled that the contract was "central to the enquiry".
HMRC can still challenge the validity of contracts and contest that any contract is a ‘sham’, using the principles in Snook v London and West Riding Investments Ltd (1967) 2 QB 786 CA, but the bar is very high indeed, requiring proof by HMRC that both parties entered into a contract that they knew was a sham. Chaplin says: "In over 20 years of IR35, I've never seen HMRC go anywhere near an attempt to claim a contract is a sham, and it's very difficult to see how they would ever succeed."
When can a written contract strengthen an IR35 defence?
Given that your contract is central to the IR35 assessment, it has considerable importance. If a contract provides no indication that "deemed employment" may be present, and it accurately describes the working conditions, the chances of the taxman fighting you through the courts are slim.
HMRC will only go after arrangements that it stands a good chance of beating, and won’t waste time and resources on cases that it is unlikely to win. As such, a well-drafted contract can help to shut down an IR35 investigation before it has even started.
When might a written contract invite an IR35 investigation?
A poorly worded contract is only going to encourage HMRC to investigate. Your working practices could leave you well outside of IR35, but if HMRC decides to challenge your IR35 status in the first place, with a contract drafted more akin to employment, the chances of winning are slim. You cannot rely solely on your working practices to fend off an investigation. This is why it’s critical to ensure that there are no question marks over your contract in the first place.
Why should I negotiate my contract for IR35?
Many agencies and clients will have a standard contract that they expect you to accept and sign. Don’t do this. Every contract should first be examined by a contracts lawyer who has specilaised IR35 expertise - they can then flag up any IR35 hazards and help provide some professional redrafting for you if it is needed.
This will inform you when you negotiate amendments to the contract to mitigate any IR35 risk.Your contract is the primary factor when evaluating IR35, taking measures to ensure it is tight and accurate can significantly bolster an IR35 investigation defence.