Private sector employers (apart from small businesses) are now responsible for deciding whether or not contractors they use are de facto employees and if PAYE and NIC deductions should be made from payment to them.
However, with any new set of tax rules there are pitfalls for the unwary and engagers could be building up substantial tax and National Insurance arrears if they make mistakes. Here are some common pitfalls to avoid:
- Not identifying all relevant contractors
- A policy vacuum
- Poor internal communication
- Mistakes with status determinations
- Thinking that CEST is always right
- Treating all contracts the same way
- Not keeping evidence
- Ad hoc payment processes
- Payroll payment mistakes
- No review or checking procedures
Not identifying all relevant contractors
It is vital to remember that if you are the end user of a contractor’s labour, and that contractor uses a personal services intermediary to engage with you, then you are the organisation responsible for making the “status determination” and deciding if PAYE and NIC should be deducted from the payments for those services. This applies even if you use a worker provided by an external agency.
So engagers should be tracking all the invoices they receive to identify the contractors they use, either directly or provided through an agency, and testing each contract involving labour services.
A policy vacuum
Having a clearly documented policy on how your business will deal with contractors makes it much easier to ensure that the correct procedures for off-payroll labour are followed and that all parties (even your regular contractors) know the rules.
Even if you do make mistakes on individual contracts, being able to explain to HMRC what your business’s policy is will help to demonstrate that you intended to use reasonable care in your assessments and process. Remember that your policy should align with your policies on minimising tax risks (for example your policies to safeguard against committing a Corporate Criminal Office through facilitating tax fraud).
Poor internal communication
Even if your HR and finance teams are up to speed on dealing with contractors under the off-payroll rules, other parts of your business may have traditionally engaged contractors locally – with limited paperwork reaching central teams. So it is vital to educate people across your whole business as to how all contractors should be dealt with and who should be involved in the process to protect the firm.
Mistakes with status determinations
Deciding whether or not a contractor should be treated as a de facto employee for tax purposes is not straightforward even if you use HMRC’s CEST tool. If you don’t have the right data to use the CEST tool or if you answer the questions incorrectly, you may get the wrong answer: in more complicated cases, the CEST tool often cannot provide an answer anyway.
If there is any doubt over the status of a particular contract you should take expert advice to make sure you deal with payments for the contractor’s services correctly.
Thinking that CEST is always right
While HMRC will honour the output from its CEST tool, that only applies if you have used it correctly and have all the evidence to prove that you answered its questions truthfully. Inevitably, some engagers will manipulate their answers to ensure they get the answer they want on a particular contract: HMRC is ready for this and will be investigating engagers in the future – those that don’t have evidence that they have used it correctly could face heavy financial costs in future.
Equally the weightings used within the CEST tool can sometimes mean that the output can be skewed towards one factor when on balance it might appear that a different result is more appropriate based on the fact pattern as a whole. In these cases it is important to take specialist advice.
Treating all contracts the same way
There is no such thing as an “IR35 proof contract” – the off-payroll labour rules simply do not work that way: engagers have to consider all the facts surrounding the worker, not just what it says in the paperwork. It is also necessary for engagers to consider each engagement with a contractor, even if they are repeated frequently. So it is wrong to think that a contract is automatically within or outside the off-payroll rules simply because a similar contractor is or the same contractor was last time: things change!
Relatively small changes to the way a contractor operates or the work is managed can change the status of the contractor so it is vital to consider each contract in the light of the current facts and arrangements.
Not keeping evidence
Although HMRC is taking a light touch to enforcing the off-payroll/IR35 rules in this first year – this only extends to charging penalties and then only in cases where businesses have taken ‘reasonable care’ in trying to apply the rules. If HMRC discovers you have not deducted PAYE and NIC when you should have, it will pursue you for the money plus interest.
Therefore, it is vital to keep a clear audit trail of how you have dealt with each and every contract and who you have sent a Status Determination Statement to prove that you have made every effort to comply with the rules. Not being able to prove what you have done may mean having to revisit past contracts when HMRC checks your records – a time consuming and costly task. BDO’s Off-payroll Tracker tool offers a simple way to organise and manage the process and maintain robust records.
Ad hoc payment processes
Not having a consistent process for paying contractors who are deemed to be employees will inevitably lead to mistakes and possibly incorrect tax and NIC payments. The most sensible approach is to pay all contractors deemed to be employees through the payroll and those outside IR35 through Accounts payable. It is also important to have clear processes for payment of expenses and materials so that the correct VAT treatment can be applied. It is important to note, however, that unless all the circumstances of an engagement are genuinely identical, HMRC are unlikely to view blanket determinations as demonstrating that reasonable care has been taken.
Payroll payment mistakes
It is always sensible to ensure that contractors deemed to be employees are set up on your payroll systems as temporary employees using a standard New Starter checklist and ensuring that the correct tax code is applied.
No review or checking procedures
Having clear off-payroll policies in place is a great start but they won’t protect against all mistakes: it is important that all work on off-payroll labour is reviewed regularly so that you can identify where any mistakes are occurring, rectify them and work to minimise the problems going forward. Businesses that have to comply with the Senior Accounting Officer rules will be familiar with this approach but it is a sensible practice for all businesses using contractors.
This post was written by BDO LLP. They are an exhibitor on the Payroll Time & Attendance floor of the HRTech247 Technology Hall here.