Small Consultancies and IR35 / Off-payroll – what you need to know


The small companies exemption means medium or large consultancies may require different advice to small consultancies. Read our guide for medium/large consultancies.

One consequence of the Off-payroll legislation (Chapter 10 ITEPA 2003), which rolled out to the private sector in April 2021, is the increase in medium and large firms using consultancies to supply services for their project needs than using recruitment agencies to source individuals.

The primary motivation behind this move is that where the consultancy is providing a wholly outsourced service, the consultancy is the “client” in terms of the Off-payroll legislation. The consequence then is that the hiring firm does not need to consider the legislation, nor does it (in theory) have any tax risk.

Additional risk mitigation comes into play where the consultancy itself is small, in terms of the Companies Act 2006. In this instance, the small companies exemption kicks in, meaning the consultancy does not have to consider Off-payroll because the original Intermediaries Legislation applies. The tax liability sits with the contractor’s limited company.

But, whilst this operating model has its advantages, firms should not be complacent. Consultancy owners who spend years building what they believe to be a lucrative business do not want a rude awakening during the due-diligence process when they discover they are sitting on a pile of risk worth nothing.

Maximising consultancy value

If you are a consultancy owner, it is unlikely you are taking on all the extra hard work of being a business owner without having an eye on the ultimate goal – a sale of your business based on a multiple of revenue or EBITA.

When it comes to sale time, a prospective buyer will conduct extensive due diligence. Anything they see as an inherent risk may result in an aborted sale. Or it could mean a significantly lower valuation. If the issues found are hazardous, you may even need to provide personal warrants or seek out a bespoke insurance policy (e.g. expensive) to cover any future downside for the buyer.

Many sellers will attest that the best sale is one where you can walk away quickly and cleanly. If there is inherent risk sat in the company, you may find a substantial portion of the sale consideration locked up in a long earn-out whilst the risk is mitigated.

In a nutshell – risk is bad for business.

So, where does IR35 come in?

IR35 risk to small consultancies

As a consultancy owner, you want to grow your business into a valuable asset, generating profits for years before a potential final sale.

You don’t want the rug being pulled from underneath your business, as a result of poor compliance, either on your part or due to your customers or suppliers.

Some examples, or “IR35 horror stories”, of how risk can enter your business:

  • Your contractors get investigated by HMRC and are determined to be “Inside IR35” – they try to defend themselves because they cannot afford proper representation, and neither can you. They, and you, become embroiled in long-term litigation, harming your business. The contractors then group litigate against you for negligence.
  • HMRC investigate your clients and decide that your firm is not providing a wholly outsourced service, is akin to a recruitment agency providing individuals, and that those contractors are also “Inside IR35”. The client claims against an indemnity you signed or litigated based on negligence. Either way, your business is doomed.
  • After years of impressive profits, it comes time to sell. Due diligence reveals that your consultancy model isn’t quite what you think it is and that your firm has built up considerable tax risk: your buyer aborts, and your valuation plummets.
  • HMRC investigates and discovers that you knew your contractors were inside IR35, not paying correct taxes and that you knowingly facilitated tax evasion, breaching s44(4) of the Criminal Finances Act 2017. Scary eh?

Why would you let any of this happen? Are you confident you have got everything right? Are you prepared to risk it? Would it not make sense to at least have a sense check?

Your business will have more value if it is built honestly and robustly.

How should a consultancy properly engage with IR35 and Off-payroll?

A consultancy owner can follow the Dos and Dont’s below to ensure they maximise their compliance, which should ultimately lead to a smooth sale in the future and maximum valuation.

  • DO: Get your contracts professionally drafted by qualified lawyers.
  • DO: Get your contracts reviewed by IR35 experts with direct experience with IR35 tax tribunals.
  • DO: Do status assessments for your contractors anyway.
  • DO: Encourage your contractor associates to have tax investigation insurance.
  • DO: Encourage your contractors to educate themselves on IR35 matters.
  • DO: Educate your clients on IR35/OPW matters.
  • DO: Get all your customer contracts reviewed for potential IR35 issues.
  • DO: Provide work on an output, wholly outsourced basis.
  • DON’T: Stick your head in the sand and do nothing.
  • DON’T: Trust a verbal assurance that a contract is “outside IR35”.
  • DON’T: Operate like an agency and supply people with job titles and “roles”.
  • DON’T: Sign a contract without it being reviewed by a lawyer.

As a general rule, if a consultancy owner has their eye on a future sale, it is highly prudent to behave as if Off-payroll already applies and conduct status assessments for the engagements. Because when a buyer turns up, the chances are they are likely to be medium or large, and at some point, Off-payroll will apply anyway.

How IR35 Shield can help your consultancy

IR35 Shield is your one-stop advisory that can help ensure you comply with IR35 and the Off-payroll legislation.

Our primary focus is assisting firms with IR35 compliance, which includes:

  • Use of our SaaS-based IR35 software (IR35 Shield for Business)
  • Legal consultancy on contractual terms and processes
  • Tax Investigation Service (up to £200K fees included)
  • IR35 enquiry/defence work – including First-Tier tax tribunals
  • Stress testing existing IR35 processes
  • M&A due diligence - both buyers and sellers

IR35 Shield can advise you, and if HMRC investigates, we can defend you.

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