IR35: A contractor’s overview to personal service

It is an IR35 factor which celebrity presenters try to claim couldn’t possibly apply to them because they’re too much of a ‘brand’ but for the typical IT contractor, personal service remains one of the key employment status tests that can’t be wriggled out of, writes Danny Batey, senior tax consultant at Markel.

Ready Mixed Concrete case sealed the importance of personal service

As there is no statutory definition of a contract of service (employment); we look to case law decisions for guidance.   

Specifically, Ready Mixed Concrete (South East) Ltd v Minister of Pensions and National Insurance 1968 laid the foundations and subsequent case law has determined the tests used today. These confirm that for a contract of service to exist the following conditions must be satisfied:

1. The individual is obliged to provide the services personally;
2. The individual is subject to control by the engager as to how he/she provides the services; and,
3. There must exist an obligation on the engager to provide work and an obligation on the individual to undertake the work.

When is personal service present?

If one of these criteria is missing, the relationship cannot be employment and is more indicative of a contract for services (self-employment).

In an employment relationship, the first of these, personal service, is always present. Indeed, it is hard to imagine a situation where an employee could send someone else in their place if they were unable to work.

But contractors, a lack of personal service is more than having a genuine right of substitution, as it also covers situations where, for example, a project requires skills which one individual might not have and so the engagement is not incumbent on the personal service provided by that person. It is difficult to see, however, how one could definitively demonstrate a lack of personal service without a positive right of substitution.

A genuine right of substitution: what it looks like

As established in Express & Echo Publications Ltd v Tanton (1999), a worker who has a genuine right to send a replacement if they are unwilling or unable to provide services, is, as a matter of law, inconsistent with employment.

In genuine self-employment, we would expect the worker to have a not unreasonably fettered right of substitution, with the worker responsible for sourcing and paying a replacement. We believe that a genuine right of substitution contains the following:

• Involves more than ‘offering’ a replacement which is subject to end-client or agency approval.
• Involves more than providing a substitute when you are ill, or unable to provide services.
• The client’s right to refuse the substitute can only be based on limited grounds: skills qualifications and experience (in some cases also security). But crucially, the replacement must be up to the task!
• You must remain responsible for the engagement, so make sure your contractual requirements (e.g. PI and other liabilities/warranties) are mirrored in the contract with your substitute.
• Payment flowing through your business – the agency/end client pays your company; you pay the substitute.

If the reality is that the onus is on the client/agency to source a replacement, the right is ineffective. Nevertheless, it is the right of substitution which is key, not actual substitution, which is rare.

Why the Usetech case matters (and serves as a cautionary tale)

Usetech Ltd v Young (2004) demonstrated an insufficient right of substitution. Mr Hood (the worker) had the right to send a replacement albeit the agency would have to interview the replacement. The substitute would then enter into a new contract with the agency and before Hood was able to take any holiday, he had to seek agreement from the client.

The judge determined that Usetech (Hood’s company) did not have freewill to decide who performed the work: the client specifically wanted Mr Hood and any substitution would be the responsibility of the agency. Therefore a requirement for personal service was present, and the court found that the relationship between the parties resembled employment.

If personal service exists, can you still be outside IR35?

Most IR35 and off-payroll commentators would today argue that personal service and control are the two core tests which you need (to demonstrate the non-existence of) for self-employment.

Nevertheless, an engagement can still be outside IR35 if personal service exists – you could be one of the few experts in the field, and it’s you alone who the client wants – but you would then need to be able to demonstrate that you are responsible for how the work is undertaken, with a lack of mutuality. And of course, as my colleague outlined very recently to readers of ContractorUK, it is always helpful to be able to demonstrate positive ‘in-business’ factors.

Finally, fit for purpose, or just window dressing?

Nevertheless, if you have responsibility for IR35 and are relying on a substitution clause to deny personal service; take independent specialist advice to make sure that the clause is fit for purpose.