IR35 Personal Service Companies

IR35 personal service companies or PSCs

Limited companies, or personal service companies, are the favourite option for UK contractors, but why, given it means you’ll have to consider IR35, and how does it compare with the alternatives? Here we look at the pros and cons of all your choices and boil down the decision for you.

There are various legal and ‘less legal’ trading structures available to you. You can run your business as a sole-trader, partnership, limited company, umbrella payroll company, off-shore company or limited liability partnership. IR35 is legislation that potentially applies to all of these structures, not just UK limited companies. In practice I am not aware of a single case that has sought to apply IR35 to a sole trader or partnership, but all the alternative structures carry pros and cons. Usually, the choice for a contractor amounts in practice to Umbrella versus Limited Company and IR35 is not the sole factor to consider, by any means.

Sole-trader
The biggest drawback with sole-tradership is that it is dying out in the UK. The main reason for this is that more and more work, for professionals at least, is being secured from recruitment agencies and they do not generally transact with sole traders, because of agency legislation. Due to the tax risk on their business they will require that you operate via a limited company, either your own or a recognised and reputable umbrella payroll company.

Partnership
This is two or more sole-traders working together in an arrangement for joint benefit. The same problem arises as above if you are transacting with recruitment agencies. In addition, the challenge here is invariably that whatever the best intentions of all parties at the beginning it is very difficult to keep a balance between effort and reward across all partners and they often fall apart within two years.

Limited company
A company needs to be formed. This is a legal process to create something that has legal rights of its own. A company is required to file at Companies House a copy of its annual accounts. In practise a company director/shareholder will extract profits from a company by a mixture of salary and dividend payments on a tax efficient basis.

Once a contractor has created/purchased a limited company the next decision is whether or not the contract is caught or not by IR35. There is no guarantee at the outset that HMRC will not at some point seek to query the status of the contract (though in recent years their policing has become almost negligible) but you should have the written contract and the working practices on the contract professionally reviewed. From here you need to decide if you are comfortable enough to treat your contract as outside IR35 and defend if required, or whether you really think you will be caught on the contract. Remember that each assignment (every contract and every extension) is evaluated individually for IR35 so what applies on today’s contract may not apply on the following one.

If IR35 applies to the contract then 95% of the income you earn under that contract will be subject to tax and NIC under PAYE. You have the advantages of a) 5% of your income being tax free
b) the ability to save tax under the VAT flat rate scheme (can be £000s per year)
c) earn interest on tax monies that you hold before they are paid to HMRC (can be £00s per year)
d) splitting ownership, and therefore creating tax mitigation opportunities, with a spouse or ‘partner’.

If IR35 does not apply then you have the additional benefit that you can split income draw down from the company between (generally low) salary and (generally high) dividend, which has the huge financial benefit of reducing your NIC deductions, as much as £1,000 for every £10,000 billed.

Umbrella payroll company
This is a service provider that acts as your employer. Benefits are that you are not setting up in business at all, rather the umbrella company is facilitating your payroll. Of course they make a charge for this service and all your income is subject to PAYE.

If you decide that being in business in account is too onerous for you, operating via an Umbrella Payroll company, which manages all aspects of income and expense affairs, may be a more appropriate alternative.

Off-shore company
There are various types of off-shore company that market on the basis of unfeasibly high take-home pay to you. Beware, HMRC have publicised that these structures are at the top of their hit list. Only consider one of these service providers if you are happy to have your money overseas in the hands of an organisation you don’t know.

You should bear in mind that in January 2010 the courts upheld a judgement that HMRC could attack retrospective legislation targeted at off-shore tax schemes for contractors, known as BN66. The advantage here is very much with the authorities.

Conclusion
In practical terms you really have a choice between umbrella company or incorporating your own limited company. If you want an easy life go Umbrella, but be prepared to pay the cost through fees and greater tax hit. If you can follow the ‘4 steps’ then go Limited Company. IR35 is a consideration, but avoiding it is hugely tax advantageous and each contract is reviewed individually, if ever at all. Speak to an advisor at Orange & Gold about your personal circumstances today on 0845 272 4009