Contractors’ Questions: Does IR35 affect the Employment Allowance?

Contractor’s Question: Having got my head around the Employment Allowance – I think, is there any interaction my company needs to be aware of between the allowance and IR35 -- either the framework in force since 2000, or the framework proposed from April 6th 2021?

Expert’s Answer: The Employment Allowance was first introduced in April 2014 to provide an incentive for UK employers to take on more staff. 

The Employment Allowance: how much and when

At launch, eligible employers could offset up to £2,000 against their annual Employer Class 1 National Insurance contributions. The allowance was subsequently increased to £3,000 in 2016 and more recently to £4,000 in April 2020.

With the latest increase came further eligibility tests, requiring employers to consider de minimis state aid rules, ‘connected’ companies and most importantly they could only claim the allowance if their total secondary Class 1 National Insurance Contributions liability in the previous tax year was below £100,000.

However, for contractors who use a personal service company (PSC) to provide their services, there are two further exclusions to consider.

1.Single-director PSCs

Where the PSC has only one employee, who is also a director, the PSC cannot claim the allowance.

To be eligible there must be at least one employee who is not a director - or if there are two directors, both directors - paid a salary above the National Insurance Secondary Threshold limit of £8,788 per annum (2020/2021 rates).

2. Engagements caught by IR35

In situations where the contractor’s engagement is deemed to be either caught by IR35 (‘inside IR35’), the Employment Allowance cannot be claimed against any deemed payments of employment income. 

When could the allowance be claimed?

Providing the engagement is not caught by IR35 (‘outside IR35’), it may still be possible to make use of the Employment Allowance.

As the payments to the PSC would be paid gross, it will be up to the contractor to decide how they should be renumerated and providing the single director-exclusion does not apply, any Employer Class 1 National Insurance Contributions payable could be offset against the £4,000 Employment Allowance.

Finally a word of caution

Contractors should approach with caution however, and remember that the Employment Allowance was designed to incentivise employment, not to reduce a contractor’s tax liability. There are anti-avoidance measures in place and professional advice should always be considered.

The expert was Chris Mattingly, chief executive of IR35 Navigator.