HMRC announced in the Autumn Statement that the proposals to tax persons who meet the definition of controlling persons would not be proceeding. However, they nevertheless used the opportunity to amend the IR35 rules and the draft Finance Bill 2013 clauses, published on 11 December, to make it clear that the provisions apply to office holders as well as employees. Prior to this amendment an office holder i.e. director, would not be considered to be an employee for IR35 purposes, so an office holder engaged via an intermediary i.e. personal service company, would not come within this legislation.
The amendment extends Chapter 8 of Part 2 of ITEPA 2003 which considers the underlying nature of the relationship between the worker and the engager; if this relationship would be considered to be employment, ignoring the interposition of the intermediary, then the legislation applies. Where IR35 applies, the income received by the intermediary (third party) is deemed to be employment earnings of the worker and the worker is liable for income tax on it.
The extension applies both where the worker is named as an office holder of the end client but paid through an intermediary and where the intermediary is named as the office holder of the end client.
The following situations which would have previously escaped IR35 will therefore be caught:
1) A director/shareholder of Company A is appointed as a director of a Co B and Co B pays Co A in respect of the services performed by the director.
2) Co A is appointed as a director of a Co B and the director/shareholder of Co A performs the director services for Co B.
3) A partner of a partnership (P) is appointed as a director of a company (Co B) and Co B pays P in respect of the director services performed by the partner.
Professional partnerships can fall outside of the IR35 rules and income will not be treated as employment income where HMRC accept that Extra Statutory Concession A37 (ESC A37) applies for partners who are appointed as directors and have satisfied the following:
a) The directorship is a normal incident of the profession and of the particular practice concerned.
b) The fees are only a small part of the profits.
c) Under the partnership agreement the fees are pooled for division among the partners.
It is also the practice of HMRC that income can be treated as that of a company instead of the directors under ESC A37, and therefore outside the scope of IR35, where the following are satisfied:
a) The first Co (Co A) has a right to appoint a director to the board of the second Co (Co B) by virtue of its shareholding in Co B or a formal agreement with Co B.
b) The director is required to hand over to Co A his income in respect of his directorship in Co B and does this.
c) Co A is charged to corporation tax on his fees.
It is clear that HMRC want to make IR35 more effective in attacking personal service company arrangements, and we should expect to see increased activity in this area. If not done so already, it would be advisable for practitioners to review those arrangements at risk bearing in mind the new “risk-based points system” introduced by HMRC, to ascertain whether IR35 applies or whether ESC A37 can be used as a defence or otherwise what else can be done to preserve their client’s position.