Why retrospective IR35 investigations will remain a threat to contractors

We’re now just seven weeks away from the introduction of IR35 reform in the private sector - arguably one of the most anticipated moments in the IR35 legislation’s controversial lifetime, writes Seb Maley, chief executive of status advisory Qdos.

On April 6th, limited company contractors whose clients qualify as medium or large businesses will no longer be responsible for determining IR35 status. As part of the reform, the risk - sometimes referred to as the IR35 liability - will transfer from the contractor to the fee-paying party in the supply chain.

In short, IR35 changes mean most contractors will lose the right to assess if the service they provide clients reflects self-employment or employment. Along with this, HMRC will begin to police IR35 compliance among businesses - whether that’s the client itself or the recruitment agency placing the individual.

Contractors will still be approached by HMRC, potentially aggressively too

But while contractors are right to be focusing on the imminent arrival of reform - and exploring ways to protect their IR35 status ahead of the changes - that’s not to say the taxman will start leaving them alone any time soon.

The current economic climate and subsequent pressure that HMRC finds itself under to raise tax revenue may result in an aggressive approach to compliance activity towards contractors. Combine this with the fact that the government is of the view that as many as nine in 10 contractors who ought to be working inside IR35 are not, and the threat of a limited company IR35 investigation very much remains.

These will of course be retrospective IR35 enquiries, with the expectation that HMRC will carry on scrutinising completed contracts that took place before IR35 reform, when the contractor carried the risk.

The (wide) cloud of suspicion

You might be aware that HMRC has said existing outside IR35 engagements which transfer inside IR35 due to the reform will not be targeted, only to follow up with unless they “suspect fraud or criminal behaviour”. It said the same yesterday, in its new off-payroll enforcement paper. While this might lessen the likelihood of an investigation, contractors cannot rule one out given HMRC could simply take the view that they ‘suspect’ non-compliance. 

As we close in on April 6th (it’s here is under 50 days), our advisers are increasingly being asked by contractors about this possibility. From, ‘Am I still at risk of an IR35 investigation?’ to ‘HMRC will only focus on compliance among businesses now, right?’

At present, we’re fielding these types of questions from contractors daily -  from individuals with a slight knowledge of IR35 to those with a deeper understanding of this complex legislation.

So just how far back can HMRC go with IR35?

The answer is straightforward. IR35 still poses a risk to PSC contractors and will do for the foreseeable future. Remember, HMRC can look into contracts that finished as long ago as six years, and perhaps beyond that if they have an inkling of deliberate non-compliance.

Not forgetting, of course, contractors engaged by small businesses will be exempt from IR35 reform - a comparatively good thing, this ‘exemption’ means the risk remains with the individual, too.

Conversely, medium and large businesses will soon find themselves liable for IR35. And we wouldn’t be surprised to see HMRC try to make an example of a business that gets things wrong. But the fact of the matter is that for the next few years -- at least, the taxman can investigate contractors, agencies and end-clients under IR35.

Strategically leaving the door open

There has been speculation that after April 6th contractors will no longer be of much concern to HMRC, who will instead prioritise compliance among businesses. While I agree that, going forward, the taxman is likely to be attracted to ill-prepared and potentially non-compliant companies, HMRC have strategically left the door open so they can investigate contractors too.

Certainly, having done the right thing in pausing ongoing IR35 investigations for a brief period last year due to the coronavirus pandemic, the tax authority looks to be ramping up its activity once again among contractors.

As our head of tax Nigel Nordone warned ContractorUK readers in December, despite asking some individuals if they were ‘ready’ to resume enquiries, HMRC has been brutal since, even ignoring one request to hold off from a contractor who had zero income because of covid-19!

Taxman won't change his appetite

I make these above points for a reason -- and not to needlessly strike fear into contractors. That HMRC can, and I suspect will, continue looking into the past engagements of contractors isn’t something that should be overlooked. The taxman has always had an appetite for retrospective investigations, and I don’t see that fact changing.

As many of you will know, the risks presented by IR35 are easily managed and protected against. But what also matters is that all contractors are made fully aware that this threat will remain despite the introduction of IR35 reform and, in turn, the shifting of the liability.