Over the last couple of decades, the landscape of employment has changed dramatically. The latest numbers from the Office of National Statistics (ONS) declare that there’s now 4.93 million self-employed people in the UK, making up 15.1% of the workforce – an increase of more than 180,000 on last year, despite the impact IR35 has had on public sector contracting since April 2017.
With such a huge proportion of contractors, freelancers and consultants in the British workforce, it’s concerning how misunderstood many of the tax laws surrounding self-employment are. PSCs, and how they fit into IR35, are arguably the muddiest of all, despite offering significant, entirely legitimate tax savings.
What is a PSC?
In short, a PSC – otherwise known as a personal service company – is a limited company that contractors offer their services and receive payments for work through. The terminology was coined by HMRC back in 1999 when IR35 was first announced.
The wide use of PSCs first came about because many clients and recruitment agencies avoid hiring contractors that operate as sole-traders. There’s no cut and dried definition of what a PSC is, and the line between illegal tax-avoidance tool and legitimate tax relief is often blurred – particularly in mainstream media.
Limited companies can certainly be a tax-efficient way for contractors to work, particularly as they tend to split their income between salary and dividends. The use of a PSC in this way exempts a self-employed worker from paying employers’ or employees’ National Insurance Contributions (NICs) on a large part of their overall income, as employees do. This tax relief is to allow for certain overheads – such as putting aside money for a pension, as well as holiday or sick pay, and supplying any equipment necessary for the job – that come as part of the self-employment package.
By hiring a contractor, a client also exempts themselves from paying the indefinite expenses that come with hiring an employee.
PSCs are entirely legal for the above purposes. However, HMRC has taken to pursuing PSC-users – the most prominent of which being Lorraine Kelly, whom the taxman lost to dismally – as tax-avoiders rather than genuine contractors.
Mike Warburton of Telegraph Money gives an excellent example as to the (completely legal) tax savings made possible through a PSC here.
How could working through a PSC affect my IR35 status?
HMRC has led a campaign to villainise the PSC precisely because of the substantial – and legitimate – tax savings to be had for contractors.
‘What really upsets the Treasury is the NI savings employers make when they pay a company, rather than an individual. This resulted in the IR35 provision (regarded by many as the least popular tax measure ever introduced) which gives HMRC the power to reclassify profits earned by a personal service company as actually being subject to income tax as if they were earned by an individual. The taxman just has to prove the service in question would have been treated as an employment if it had been provided directly by the individual to the customer.’
‘The problem that HMRC has encountered in applying the rules is that the distinction between an employment and self-employment is not entirely clear. As demonstrated by the cases involving Ms Kelly and Ms Ackroyd, the courts came to different conclusions in what might seem as similar circumstances. The distinction drawn between them by the court was that Lorraine Kelly had a higher degree of control and influence over the content of her programmes than Christa Ackroyd.’
IR35 investigations are notoriously subjective, as seen in the high-profile cases mentioned above and the more recent case of Loose Women’s Kaye Adams. Much of the decision is down to the judge’s interpretation of the contractor’s working practices and contract, and takes into account how much control they have over their work schedule and content, whether they could theoretically supply a qualified substitute should they not be able to fulfil a certain job, and if they’re expected to provide a continued service on an indefinite basis.
Whether or not a contractor uses a PSC could also be examined as part of an IR35 investigation. There’s nothing to suggest in recent cases, however, that using a PSC is an automatic black mark against the contractor.
Warburton actively advocates the use of PSCs, and urges contractors not to be scared off the benefits to be had by HMRC's crusade against the self-employed. However, he finishes with a warning:
‘We should all be entitled to reduce our tax liabilities by legal means without having to look over our shoulder to see if HMRC is taking aim. I would, nevertheless, be very wary of anyone offering you a so-called "managed service company" where special anti-avoidance tax rules can apply.’
Additional IR35 notes for contractors
A genuine contractor, freelancer or consultant who is in business on their own account shouldn’t have anything to worry about when it comes to IR35. However, contract reviews are always advisable; whilst you may know that you’re legitimate, IR35 investigations are far from scientific.
Should you want some peace of mind, we offer a full contract review amongst other services to help you prepare for IR35. We’ll give a pass or fail based on the current contract you hold, along with comprehensive comments on how to improve any problem areas.
For any further information or advice, please call us on 01163 800 400 or drop us an email. Alternatively, take a look around our Knowledge Hub for more IR35 advice, industry news and contractor guides.