HMRC hits the bulls IR35

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When individuals provide services to clients through their personal service company, the IR35 rules always need to be considered. IR35 is a set of rules which enable HMRC to look beyond the labelling given to an arrangement, and assess if, but for the existence of the personal service company, a contract of employment would exist between the individual and the client. If an arrangement is “inside IR35”, meaning a contract of employment would have existed, income tax and national insurance must be deducted from any payments made by the client to the personal service company.

The burden of assessing the tax status of the arrangement within the private sector sits with the client that receives the services, if that client is a medium or large business. This has been the case since April 2021 under the Off-Payroll Working Rules (part of the IR35 regime).

In the Little Piece of Paradise case, Sky TV Limited (‘Sky’) had contracted with Little Piece of Paradise Limited (‘LPPL’), a personal service company which is majority owned by sports presenter Dave Clark, to provide broadcasting services at boxing and darts events.  At the request of Sky, LPPL was incorporated in 2003 by Mr Clark to provide his services to Sky.

In applying IR35 and assessing whether a contract of employment would have existed between Sky and Mr Clark, the tax tribunal considered the tripartite test of employee status: mutuality of obligation; control; and other relevant factors.

Mutuality of obligation

Mutuality of obligation means:

  1. The obligation of the employer to provide work to the employee, and
  2. The obligation of the employee to carry out that work.

The presence of mutuality of obligation is a question of fact based on the intended terms of the contracted parties’ agreement and how the arrangement operated in practice. Mutuality of obligation is a minimum requirement for employment status. Some of the factors the tax tribunal considered when concluding that mutuality of obligation existed were:

  • Pay was not calculated on a pro-rata basis according to Mr Clark’s performance and hours in any given month. It was decided by monthly invoices of one-twelfth of the annual fixed fee.
  • There were implied terms such as the common understanding between the parties that Mr Clark’s services were required for the 64 days that Sky was broadcasting the Professional Darts Corporation (‘PDC’) competition.
  • The presence of a termination clause for cause only, evidenced the existence of mutuality obligation binding the parties to the contract as it could only be ended when a condition of the termination clause was met.

Exercise of control

If a company has a high degree of control over what the services are and how, when and where they are carried out, this also indicates an employment relationship. Sky had control over what PDC programmes Mr Clark was required to perform, and had ‘first call’ over Mr Clark and his work commitments. This was found to evidence a “very high degree of control”.

Mr Clark did have a degree of autonomy over his preparation before an event and his presentational style (attributed to his expertise and knowledge), but how Mr Clark conducted his contractual obligations was given little significance in court, given that he was in any event subject to the control of Sky’s editorial guidelines and the producer of each programme. So, while Mr Clark had some control over “how” he delivered the services, Sky more importantly had control of “what” and “when” services were to be delivered.

The knockout blow was the non-compete undertaking in the Non-Disclosure Agreement signed by Mr Clark, which restricted his activities beyond programmes performed for Sky. The Tribunal gave this significant weight in that it tended to show the requisite control Sky had over Mr Clark’s activities outside the scope of the broadcasting services, which was consistent with employment status.

Other Relevant factors

Where there is both mutuality of obligation and a high degree of control, the first two requirements of the tripartite test are met. This will demonstrate strong evidence of employment status unless there are other factors to the contrary.

Such evidence would include:

  • The right of substitution; if the individual is obliged to personally perform the contract by using their own skill in the performance of the service, it will be akin to an employment relationship. A clear and unambiguous ability to use a substitute and the fact a substitute has been used in practice may prevent there being employment status.  However, the tax tribunal found on the facts that there was no right of substitution in this case.
  • Performing the business on their own account; this will be demonstrated by factors including the individual using their own equipment, taking on financial risk, and having to incur costs in providing their services. The court found that Mr Clark’s presenting service would have no outlet for any financial reward without the existence of Sky as a broadcaster. In other words, it would cease to exist if the contract with Sky was terminated and accordingly, could not be said to be in business on its own account.

What this means for you

This case is a useful reminder of the real risks in engaging individuals to provide personal services through a personal service company or directly as a self-employed person, as tribunals will proactively look beyond the written terms of any arrangement, and relatively little weight is given to written contractual provisions.

Significantly, the tribunal also found that the existence of a termination clause with cause only could be evidence of mutuality of obligation, and that wide autonomy on “how” an individual delivered their services was not enough to disprove that he was subject to control akin to employment, as Sky retained high control over  “what”, “when” and “where” services were required.

Similar tests of employment status will also apply in the employment law sphere, to assess whether individuals have statutory rights to unfair dismissal, holiday pay, minimum wage, sick pay and access to workplace pension. This case sets a relatively low evidential bar to establish employment status in a tax context, even when a contractor has a high degree of autonomy on how the services are delivered.

These risks demonstrate the need for clear legal support when reviewing your contractors, as enforcement of IR35, particularly in the media sector, is a priority of HMRC and the tax tribunals are readily finding arrangements inside IR35.

Get in touch with our IR35 experts, David Sheppard and Rebecca Mahon, if you need any further advice on employment status of your contractors.