The use of subbies in construction is not unusual – we all know that. And HMRC knows that too, which is why they are unlikely to bother you if you only work with subbies every now and then.
But when you work with your subbies long-term, HMRC starts to get a little more interested. Why? Because they want to know whether your subbies are genuinely self-employed or if you’re disguising employees as subcontractors for tax reasons.
It’s unlikely an HMRC inspector will just turn up out of the blue to quiz you. In fact, there’s a good chance they won’t look your way at all.
But what happens if they do? How can you avoid HMRC opening an enquiry? What should you expect if they do start looking at you a little more closely? And how can you satisfy their enquiries without ending up in a courtroom?
If HMRC opens an IR35 enquiry, it can be a long process. You’ll need to explain why IR35 doesn’t apply to your situation and provide copies of your contracts. If HMRC thinks IR35 does apply, the next step will be a face-to-face meeting.
What is an HMRC IR35 investigation?
IR35 is a set of tax rules designed to stop freelancers, consultants and contractors from avoiding tax by setting up as a limited company or working under an umbrella company.
When you are employed by a company, you pay income tax and national insurance contributions on your salary. As a limited company, you pay corporation tax on your profits. Corporation tax often works out less than you’d pay as a PAYE employee, which is why a lot of contractors prefer working that way.
But, as you can imagine, HMRC doesn’t like tax avoidance, which is why they introduced IR35. It’s designed to stop people from disguising themselves as limited companies when they should be classed as employees.
If HMRC suspects you of doing this, you could be subjected to an IR35 investigation.
Stages of an HMRC IR35 investigation
When HMRC open an IR35 investigation, they will usually start with an opening letter to the contractor asking them to explain why IR35 doesn’t apply and requesting the contractor’s tax paperwork and details of their company’s income. They will also request copies of any contracts or employer records relevant to the work being carried out.
It is important to note that HMRC will not take your contracts at face value – they will check that what is in the contract matches up with your actual working practices.
If HMRC believes IR35 should apply, they will request a face-to-face meeting. You do not have to attend a meeting – you can request they make their enquiries in writing.
Penalties and fines
If you’re found to be within IR35, you must pay HMRC any unpaid income tax and national insurance as well as any interest due on these amounts. And if there is evidence you didn’t exercise reasonable care when completing your tax returns, you may also have to pay a penalty.
Tax tribunals and appeal hearings
If HMRC decides IR35 applies, and you disagree, you have the right to object. You can ask them to review their decision, or you can appeal directly to a Tax Tribunal. If you don’t agree with the tribunal’s decision, you can ask that the higher courts consider your appeal.
As court appeals can be a long process, it is recommended you seek professional advice so you can present a strong legal argument.
Are construction firms at risk of an HMRC IR35 investigation?
Before you panic and start researching the difference between a first-tier tax tribunal and an upper tax tribunal, we just need to clear something up.
IR35 does not apply to genuine freelancers, consultants, or contractors who are a business in their own right. And it does not apply to sole traders.
So if your labour-only subbies are all sole traders, IR35 is irrelevant.
But that doesn’t mean HMRC won’t question their employment status.
If HMRC suspects your subbies should be classed as employees rather than self-employed contractors, then they could open an enquiry into employment status. And if they do reclassify your subbies as employees, you will be liable for any unpaid tax and NI.
What are the warning signs of an HMRC employment status enquiry?
The first thing to understand is that an HMRC enquiry rarely starts as an enquiry into the employment status of your subbies. It’s more likely it will start as a general tax enquiry into your VAT return, a CIS payment, or a corporation tax deduction.
For example, we recently got a call from a guy who’d come under fire when he submitted a VAT refund request. He knew something wasn’t right when HMRC asked for a copy of the contract between him and a client. Why would they need to look at contracts if the invoices were raised at the standard 20% VAT rate?
We had another case where HMRC questioned one of our clients about why their subbies were using company fuel cards if they weren’t employees.
And this is how they get you. They spot these little things while looking at your accounts, and they pounce on them.
They want to make sure they are getting all the tax payments that are due to them. So if they spot anything that could indicate your subbies are not really subbies, they’ll get a bee in their bonnet about it.
Why you should never agree to a call with HMRC
It might seem completely innocent at the time, but if you get offered a telephone conversation with HMRC, you should politely decline. Instead, ask them to submit any questions in writing.
The problem with getting on a call is that it allows HMRC to lead you into a trap. And no, we aren’t just being paranoid. It’s becoming an increasingly popular tactic by HMRC. They’ll ask you some genuine questions about your accounts and then slip in a couple of curveballs.
“How do you pay your subbies – is it by the hour?”
“Do your subcontractors use your company vehicles?”
“Did you use the CEST tool to determine the subcontractor’s employment status?”
While there’s nothing wrong with any of these things, your answers could be twisted around and used against you in a future tribunal.
Because even though you know your subbies are not employees, HMRC might see it differently. If they look like an employee and act like an employee, then surely they are an employee, right?
Sometimes. But not always. And certainly not in as many cases as HMRC would like. But that doesn’t stop them from trying to catch people out.
So if you do get invited on a call, say no, ask for written correspondence only, and then keep your eye out for the postman.
Watch out for the brown envelope
If you’ve asked HMRC for their questions in writing, that’s what you’ll get. So when that initial letter arrives, don’t panic.
It might be full of questions and requests for evidence of this and justification of that, but this isn’t an official enquiry. This is just a fishing expedition.
HMRC want to find out whether they should be digging any further so they will request information relating to your relationship with your subbies.
And do you want to know the easiest way to get them off your back?
Having a watertight written contract that clearly outlines your working practices.
“Do your subbies drive your vans?” – yes, and it’s reflected in their rates of pay as per the contract.
“Do your subbies submit timesheets?” – no, they submit site attendance records for health and safety purposes as per the contract.
It’s hard for HMRC to argue with a contract that outlines exactly how you work with your subbies and why you work that way.
Case closed.
Why you need bespoke written contracts to protect yourself during HMRC enquiries
If you have a bespoke contract, it’s very easy to shut down an enquiry before it gets off the ground. But it’s not always as straightforward as that.
Your contract has to match up with reality. If it doesn’t, then you’ll run into problems.
That’s why off-the-shelf contracts and bastardised contracts are so risky. They don’t always reflect the way you operate.
But there is good news.
It’s actually very easy and very affordable to ensure your contract is watertight – let us create it for you.
All you need to do is be completely honest with us about how you work with your subbies, and we’ll do the rest.
What’s more, we’ll handle any HMRC questions or enquiries on your behalf – we’ve studied past case law so we know how to prepare a satisfactory response.
And if they ever do open an official enquiry, we’ll take care of that too. Plus, our contracts come with an insurance-backed guarantee, meaning if your subbies did get reclassified as employees, we’d cover any costs.
How’s that for exceptional service and complete peace of mind?
Get in touch now to get started.
If you’re worried about any questions or queries you’ve had from HMRC, let us know. If we can help, we will. If we can’t, we’ll point you in the direction of someone who can.