Escaping employee tax status
Some people have tried to avoid being taxed as employees by setting up sham contracts.
The IR35 legislation was introduced to tax income from ‘disguised employment’ at a rate similar to any other employment income. It has been particularly devastating for freelance contractors who often have little choice but to operate through an intermediary company.
However, contractors have been successfully fighting back by using ‘IR35 friendly’ contracts so that arrangements with clients are outside the scope of IR35. One of the most important factors in such a contract is the right of substitution. Whereas an employee is obliged to perform work personally, in a contractor/client relationship the contractor will normally be free to provide a substitute if they are ill or on holiday.
But the problem is that actual working practices must match those stated in the contract – so a substitution clause must be a genuine right. The most recent case to be heard, involving Autoclenz Ltd, reinforces this position as it was heard in the highest court in the land – the Supreme Court. The case concerned car valets who actually wanted to be treated as employees so that they would be entitled to various employment rights. The valets’ contracts stated that they were self-employed and contained an express term allowing them to appoint a substitute. However, the court concluded that the contracts did not reflect the true relationship between the parties, and that the valets were in reality employees.
To rely on a substitution clause the right should ideally be included in the original contract, and you, as the contractor, should be responsible for the substitute’s recruitment, their work and their remuneration. Although it is unlikely that a client will permit unfettered use of substitutes, the fewer restrictions placed on their use the better. Bear in mind that just because the right to use a substitute has never been exercised does not mean that it does not exist. If contractors engaged on similar terms have supplied a substitute then this indicates that the right is genuine.
Although substitution clauses are important in establishing self-employed status, there are many other factors to consider. The goalposts for contractors are constantly moving, so contact us if you need advice.