Sole Trader & CIS vs Limited Company
Jan 07, 2021
What is IR35 and who does it apply to?
IR35 was introduced in the year 2000 to prevent disguised employment through intermediary entities such as personal service companies (PSCs), which allowed workers to inappropriately avoid paying taxes as employees. IR35 legislation does not, therefore, cover anyone trading as a self-employed sole trader or CIS worker as there is no single person intermediary entity between the worker and the hirer, i.e. a PSC or a mini Umbrella company.
Employment status determination tests
Even though IR35 is not relevant to sole traders and CIS workers, the employment status of PSCs sole traders and CIS workers must still be assessed using the same employment status tests.
Historic recognition of status by hiring companies
In some sectors Limited Companies have been viewed more positively than sole traders – in the past, it has been considered a more professional approach or viewed more favourably because it was thought to indicate a bigger commitment to being self-employed.
Indeed, some large hirers and recruitment agencies have often decided not to work with sole traders at all. This attitude may well begin to reverse as a result of the IR35 reforms introducing new risks to the hiring company moving forward when they engage PSC contractors.
Responsibility for proving employment status and making statutory returns
As a sole trader, you are not liable for the risks surrounding your employment status assessment – that lies with your recruitment business or the hiring client if you have not been engaged through a recruitment business. On the other hand, as a Limited Company, you are, until 6th April 2021, responsible for proving that you are compliant with the IR35 rules and are not a disguised employee.
From 6th April 2021, however, in the Private Sector, the employment status risks associated with operating through your own Limited Company will be similar to the risks of operating as a sole trader, i.e. you will no longer be personally liable for the risks from errors in assessing your employment status; from that point, those risks will sit with your recruitment agency or the hiring company.
As a director of a PSC Limited Company, you also have responsibilities set out under the Companies Act 2006 regarding corporate governance, while you will additionally have to submit annual accounts as well as corporation tax and VAT returns to HMRC. However, as a sole trader all you have to do is send in your personal self-assessment tax return every year to remain compliant with HMRC; you have no responsibilities for filing returns or accounts with Companies House. This saves you costs and risk of late filing penalties.
Sole traders don’t carry the same level of risk as Limited Company contractors for hiring companies
As a result of the IR35 legislation changes from 6th April 2021 the risks associated with making an incorrect assessment of employment status could potentially drive many hiring companies, wishing to avoid the new risks to their companies resulting from these legislation changes, to assess all their contractors as inside IR35, or alternatively not even make an assessment and attempt to force all workers into inside IR35 contracting options. We have seen this already with a number of major banks.
This may result in genuinely self-employed workers being prevented from working outside IR35 merely because the hiring company either:
- Does not understand the new IR35 legislative changes.
- Does not want to take on the risk of making incorrect status assessments.
- Has decided to “blanket ban” outside IR35 workers to save the time and costs of making status determinations.
In such cases, it may be that some recruitment agencies are prepared to undertake employment status assessments for sole traders where hiring companies were not prepared to do so, particularly where they already have experience of performing such determinations with existing workers. This is actually already common practice in some sectors, e.g. following the Onshore Intermediaries legislation in 2014 many businesses in the construction sector have professionally managed such self-employment determinations for self-employed workers under the Construction Industry Scheme (CIS).
Such assessments performed by the recruitment business on the status of sole traders still result in risks to the recruitment business but are nowhere near as risky to the hiring company because these decisions are not impacted by the new IR35 legislation.
If you are engaging as a sole trader, ensure you are covered by the right insurance cover
As a sole trader, you have no separate entity with limited liability sitting between you and the hiring company. It is therefore vital that you put in place the correct insurances to protect you from claims from the hiring company or others relying on your work.
Such insurances will probably be very similar to those you had in place if you previously operated as a PSC Limited Company and will continue to give you peace of mind whilst operating as a sole trader.
SUMMARY
If hiring companies are not prepared to engage with PSCs after new IR35 legislation is introduced from 6th April 2021 onwards, some may nevertheless be prepared to operate with sole traders especially within the construction sector as the risk of incorrect determinations will fall with the recruitment business and not the hiring company.
If the recruitment business is familiar with managing the risks of status determination assessments, then this allows workers to have the option of continuing as self-employed so long as they can genuinely pass a thorough self-employment determination assessment. This is already now common practice in the construction sector where it has been professionally assessed and managed since the introduction of the Onshore Intermediaries legislation in 2014.