Operation of IR35 from 2000, and recent developments
The operation of IR35 depends on identifying where a freelancer working for
a client through a PSC is in substance, not form, an employee of that
client. When IR35 was originally introduced, the rules required the PSC
itself to identify whether use of the PSC to receive gross payments from a
client in any instance was “disguised employment” by the client and to
arrange payment of tax and NI under PAYE if that was the case.
Freelancers (and sometimes family members) are usually the only directors
and/or shareholders of a PSC. Perhaps unsurprisingly, HMG found that PSCs
could not be relied upon to implement the IR35 rules. PSCs commonly paid
dividends to the freelancer (as a shareholder of the PSC) rather than a
full (or any) salary to the freelancer. As a result, PSCs did not pay the
tax or NI that would have been paid had they paid the freelancer a salary
derived from the gross payments made by their clients.
Consequently, under a change in the law in 2017, HMG began to implement
anti-avoidance measures. Since April 2017, where the client is a public
sector entity, the burden of assessing the tax status of freelancers
shifted on to the public body concerned, so that it, not the PSC, is
responsible for identifying such “disguised employment” situations. Where
the public sector body does identify such a situation, it must operate PAYE
and make net payments to the PSC.