The vast majority of contractors are unlikely to be affected by changes to IR35 that will bring office holders, like directors, company secretaries and auditors, within scope of the legislation.
“From April 2013, income earned by contractors who are office holders of the client, or who would be office holders of the client, but for the fact that the individual does not have a direct relationship with the client, will fall within IR35 and be taxed accordingly,” explains Roger Sinclair of contractor legal specialist Egos. “However, according to HMRC’s guidance and case law on what constitutes an office holder, it seems likely that very few contractors will be affected.
“The exact position of office holding contractors won’t be known until the actual legislation is implemented following the 2013 Budget in March, and it is possible that the final form of the legislation may change and the goalposts may be moved,” he adds.
ContractorCalculator will publish full guidance on the proposed changes once the final version of the draft Finance Act 2013 has been published following the 2013 Budget.
What are the proposed changes to IR35, and what do they mean
The Treasury has published its amendment to the Income Tax (Earnings and Pensions) Act 2003 section 49, subsection 1, which says that IR35 will apply:
- if the services were provided under a contract directly between the client and the worker, the worker would be regarded for income tax purposes as an employee of the client or the holder of an office under the client, or
- the worker is an office-holder who holds that office under the client and the services relate to the office.
“The result of the proposed amendment in its current form is that a contractor’s income from a contract role which fulfils the definition of an office holder will fall within IR35,” continues Sinclair.
In effect, conventional employment indicators such as control, substitution and mutuality of obligation will no longer be relevant to office holders. So the contractor’s IR35 status is not determined using employment legislation and case law.
The result of the proposed amendment in its current form is that a contractor's income from a contract role which fulfils the definition of an office holder will fall within IR35
Roger Sinclair, Egos
Therefore, a contractor in the frame for being an office holder no longer has to prove that they are not a disguised employee and that they are in business on their own account. The challenge facing such contractors will be to prove that their role is not an office.
Case law and HMRC guidance on defining an office
“An office and an office holder are not defined by statue. However, there is case law and guidance from HMRC in its Employment Status Manual ESM2502, and this can be used to identify what constitutes an office,” says Sinclair.
HMRC’s guidance says:
“There is no statutory definition of the word 'office'. It has been judicially defined as a‘permanent, substantive position which had an existence independent from the person who filled it, which went on and was filled in succession by successive holders.'”
And case law adds that an office:
“...must owe its existence to some constituent instrument, whether it be a charter, statute, declaration of trust, contract (other than a contract of personal service) or instrument of some other kind.”
Furthermore, Section 5(3) Income Tax Earnings and Pensions Act 2003 provides;
(3) … "office" includes in particular any position which has an existence independent of the person who holds it and may be filled by successive holders.
“Company roles such as director, company secretary and auditor qualify as offices,” highlights Sinclair. “However, roles such as ‘chief executive officer’, or ‘programme director’ will not generally be positions that exist according to a charter or statute.
"And without there being some instrument of the type listed in case law which in fact constitutes, which I take as meaning ‘formally establishes’, the position it is hard to see how any such position could actually be created in such a way as to have an independent existence."
Even interims in very senior private sector roles are unlikely to be occupying an office, as defined by case law, when fulfilling their assignment, unless for example they are actually appointed as a director.
Public sector contractors are more likely to be classed as office holders
However, Sinclair warns that positions likely to fall into the category of office as defined by case law, and understood by HMRC, are more prevalent in the public sector: “Offices are more often found in public sector organisations when the position is more than a job title.”
There are many public sector offices created by statute, so contractors on interim assignments requiring them to occupy those offices would be inside IR35, and should structure their tax affairs accordingly by paying themselves a salary.
Contractors are often company directors – will IR35 apply?
Limited company contractors are typically the directors and sometimes company secretaries of their own companies, so technically any remuneration received for performing duties associated with these offices will be taxable as if it were employment income.
But the proportion of time spent on performing director’s duties, such as preparing reviewing and approving company paperwork, versus delivering services to a client is likely to be very small.
Contractors who pay themselves a small salary at or below the amount of their personal allowance will find that this employment income will more than remunerate them for time spent on the duties of the office of director.