The tax man cometh

A new ruling from the Inland
Revenue, IR35, will have far-reaching implications for interim management
professionals and their clients, By Caroline Horn

There are many reasons
why a person should decide to become an interim manager, just as there are many
ways in which they can go about doing so. How they operate – whether as an
employee, a self-employed person or through a limited company – can depend on
several factors.

Today, most interim
managers choose to work through a limited company because of the tax advantages
it gives and because, more often than not, their clients will demand it.

Andy Whally,
commercial manager for Headwhay marketing consultancy and on the steering
committe of the Institute of Interim Management, says, "Most of the larger
suppliers of interim managers will insist that managers operate through a
limited company. Certainly in the past couple of years, that has been the case.

Interims are required
to have limited company status, a company registration document and VAT numbers.
Increasingly, they are also having to provide professional indemnity insurance.
They are also having to consider the implications of the new tax ruling, IR35,
which came into force in April 2000.

The implications of
the ruling are far-reaching, both for interims and for their clients. So great
is the concern it has raised among the IT and contract services industry that
the Professional Contractors Group has challenged IR35 in the High Court and a
judicial review is underway, with a hearing due in mid-March.

IR35 investigates the
status of "contract workers" to evaluate whether they are genuinely
working under contract or whether in effect they should be considered to be
employed. Because it is still so new, no one is clear about how stringently the
Inland Revenue will apply the new rules.

Interim managers
therefore need to pay close attention not only to the wording of their
contracts but to how the work itself is structured. There is, of course, no
such thing as a typical contract. An interim might be brought in to help the
client company through a period of change such as a merger or acquisition or to
replace an absent director. Or a group of individual interim managers might be
employed as a team to work on a particular project.

Alyson Gilbert-Smith,
managing director of Interim Human Resources, says agencies do not generally
become closely involved in developing interim contracts – nor in helping
clients to avoid the implications of IR35. "We are steadfast concerning
the rulings of IR35. We can’t advise everyone from a legal aspect because we
are not in a position to do that. They need to get their own expert help from
solicitors or accountants," she explains but adds, "We have noticed
no difference in how contracts are drawn up since the introduction of IR35."

This, however, could
be a mistake, warns Ian Milroy, tax partner at Robertson Milroy. "Because
IR35 hasn’t yet been tested, we are not totally sure what it will mean. If
agencies and clients can adopt a position which they feel covers IR35, where
the interim is self-employed in nature, then fine. But the ruling has not yet
been tested by the Inland Revenue so no one knows what type of contracts will
be challenged."

He adds, "My view
is that people are window-dressing contracts to try to overcome IR35. There
were lots of contracts in place before IR35 which would not have been
IR35-compliant. Simply by going into the workplace, interims are becoming part
of the organisation so it automatically becomes a grey area in terms of the new

Milroy says IR35 is
going to become a major negotiating matter in any contract and is something
agencies will have to start working with more closely. It is likely that a
number of changes will follow in the wake of IR35, not just in terms of what
interims need to charge to cover the new costs, but also for clients. There are
many large blue-chip companies which regularly employ banks of contract
workers. They, too, will need to start taking a much closer look at just how
those people are employed.

Legal status of
interim manager

While most interim
managers choose to operate through their own limited company, they also have
the options of working as an employee or to be self-employed. Each option has
different tax implications for the interim as well as the client.


Most people
considering working as an interim will have spent several years as an employee,
where they fulfil an open-ended contract for an employer with agreed rates of
pay and benefits such as holiday pay, and statutory benefits such as redundancy.
But working as an interim manager to fulfil short-term contracts reduces the
benefits of working as an employee, while the interim also loses tax advantages.


A self-employed person
will provide a service under contract for a fixed fee. One of the main issues
of being self-employed is that the person does not become part of the
organisation and has some control over when and how the service is provided.

The advantage of being
self-employed is that the interim can deduct certain expenses incurred during
the course of fulfilling the contract. These can include travel costs –
providing the interim’s business base is their home – equipment used for the
business including computers and mobile telephones, and administration costs
such as telephones and stationery. A self-employed status therefore offers tax
advantages to the interim, as well as to the client, who does not have to pay
NI contributions for the self-employed contractor.

company status

Operating through a
limited company means the limited company – rather than an individual, who
becomes the employee and worker of the limited company – is responsible for
fulfilling the contracted services. The advantage for the client is that the
interim manager’s limited company pays the salary, deducts PAYE, National
Insurance and so on. These advantages are similar to those when hiring a
self-employed interim. But the new IR35 ruling means it has become much harder
to work through a limited company (see below).

Revenue requirements

While working in a
self-employed capacity carries obvious benefits for both the client and the
interim, it is unusual for an interim manager to be contracted on this basis.
Clients will often refuse to employ an interim on a self-employed basis
because, should the Inland Revenue decide that the self-employed person is to
all intents and purposes an employee, then it can claim the PAYE and NI due
from the client organisation. The client is unlikely to be able to recover the
amount from the interim, who by then is quite likely to have moved to a
different company.

This is why many
client organisations have preferred to hire an interim working through a
limited company. While the administrative and financial advantages are similar
to those of hiring a self-employed worker, the client is not responsible for
the real employment status of the interim.

Mark Watson,
employment law partner at Fox Williams, says in the CBI’s title, Interim
Management (AshtonPenney Partnership): "The essential point is that it is
not the responsibility of the client company to assess the tax status of the
interim management company to which it is paying fees, nor to make tax
deductions. That is the responsibility of the interim management company. No
liability for failing to make deductions will fall on the client company."

But as Watson adds,
"Engaging an individual interim manager direct can, on the other hand,
result in problems if payments are made to them gross, without a full
assessment of their employment and tax status."


Falling foul of the
Inland Revenue can be a costly mistake for interims, too, where they have set
up limited companies. Until the introduction of IR35 in April 2000, working as
a limited company was a popular option for interims. Limited company status gave
interims tax advantages and provided clients with a cost-effective means of
hiring a person with particular skills for a limited period.

Nicholas Boothroyd,
director of human resources consultancy Project IT Resource, says, "IR35
is a new piece of legislation that directly affects the freelance industry. In
summary, IR35 investigates the ‘status’ of ‘contract workers’ by applying
criteria to their contract that are designed to evaluate whether the contract
engagement on which they are employed is of a genuine ‘contract’ nature, or
should be regarded as ‘akin to employed’".

He says, "While
the Revenue will not apply these criteria retrospectively to contracts written
prior to the new legislation becoming law, it is important to recognise that if
a contractor has ‘looked, felt and smelt like an employee’ in the past then a
significant number of factors will have to change for them to be able to show
that they are in fact ‘genuine contractors’ under the new laws. A cosmetic
change to a contract of employment will not be sufficient to demonstrate an
engagement being of a ‘genuine’ contract nature."

The Inland Revenue
will assess engagements undertaken by the limited company, and check the terms
to clarify whether "if the interim was working for the client direct,
he/she would be employed or self-employed". If the IR decides that the
interim was, in effect, employed by the client, then the interim has to pay due
PAYE and NI contributions on the contract, after deducting certain expenses.

Deductible expenses
include the employer’s NI contributions, pension contributions, 5 per cent of
the gross value of the contract to cover administrative expenses and limited
expenses which would be allowed if the interim was an employee.

The client, meanwhile,
continues to enjoy the benefits without taking on the tax risk that comes with
hiring self-employed individuals. Even if it is found that the interim was
working as an employee, the client is not penalised by the tax office and can
continue to pay the interim’s limited company gross without deducting PAYE or
NI. Obviously for the interim, incorrect classification can become a very
costly mistake.

It is hard to know
exactly how the Revenue will interpret the new ruling and whether certain
contracts will comply. Milroy says, "We have a self-assessment basis for
companies and anyone running their own company has to assess their liability.
It is up to the Inland Revenue to decide where that will lie. IR35 is
potentially a lucrative area for them so anyone running their own company is
likely to be checked."

Julia Meighan,
managing director of Interim Performers, says, "The most important aspect
of interim management and IR35 is the true concept of an interim manager. To
all intents and purposes, the interim manager integrates themself into the
client organisation."

With or without line
management responsibility, she adds, "their total focus is on achieving
objectives within a predefined period exclusively for that organisation."

There are generally
two types of possible interim assignment – a project-based activity with a
beginning and end and predefined objectives or the care-taking type of role for
an unplanned vacancy in the organisation for a fixed period of time.

"Both have
problems with fitting the IR35 rule," says Meighan, adding that the latter
clearly does not fit in with the IR35 ruling as the interim is acting as an
employee of the organisation by fulfilling a role that would ordinarily be
filled by a full-time manager or employee. She says, "Demand for interim
managers is growing more rapidly at the senior end of the middle management
market and ‘filling the gap’ roles are growing as quickly as the project-based

But Meighan is also
keen to point out that it is still very possible for an interim’s contract and
work status to be IR35-compliant. There are a number of areas, however, that
fall outside the ruling. For example, the contract could allow for someone
other than the interim to complete the project, so the contract is for services
completed rather than focusing on the actual individual completing the work.
But it is often the individual’s skills on which the client is relying.

Other guidance
suggests using your own equipment rather than the client’s, not being paid a
fixed daily rate and certainly not a salary, and being paid on the achievement
of work done or milestones reached. Again, however, some of these points could
prove difficult to set up for both client and interim.

the contract right

The introduction of
IR35 means interim managers need to be clear about their working status, and be
careful about their contractual arrangements.Some interims already working as
limited companies will, inevitably, have to change their classification while
others will not be affected.

There will also be
contracts where it is hard to determine whether an interim is
"employed" or "self-employed". Standard contracts will
generally be inadequate but by putting in place certain criteria that confirm
the "self-employed" nature of an interim, then interim managers could
continue to work through their own companies.

It is still too early
to know exactly how IR35 will be enforced. But the bottom line is that no one
can assume that existing contracts are IR35-compliant. If the nature of the
work means a contract will not be IR35-compliant, then a number of interim
managers will need to reconsider the value of working through a limited

Some might decide to
go back onto a company’s payroll. Others will look again at their costs and
raise their prices accordingly.

"If there is a
market for interim management then that market will grow and develop, however
it is managed," says Ian Milroy. "But the tax rules will have an
effect. If IR35 is part and parcel of acting as an interim manager, then the market
rate will have to rise to cover that. That is when it becomes a market issue."

to comply with Ir35

Defining the terms of
a contract IR35 will apply only to a contract where the interim manager would,
but for the existence of his limited company, have been treated as an employee.
To comply with IR35, the contract must show that, by nature, the interim is

In their brochure,
Becoming an Interim – A Financial Perspective, Robertson Milroy and Interim
Performers provide a summary of factors which are helpful in agreeing
self-employed status. These are as follows:

– You can send a
replacement rather than carry out the work yourself

– You are at liberty
to carry out the work without the client telling you what to do, when or how

– Payment by way of a
project fee with instalments being subject to the achievement of certain
milestones instead of payment by the hour, week or month. The interim must not
be entitled to holiday pay or other benefits provided to the client’s staff

– You can work for
other clients during the term of your contract

– You provide the
equipment required to perform your work

– You control the
hours you work each week and whether the work is carried out a the client’s

– The client has no
obligation to offer work following completion of the contract and you have no
obligation to accept further work

– The contract is for
a short duration

– Adopt a
business-like approach to obtaining a series of engagements for various clients

– Issue invoices, not
timesheets, and register for VAT.

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