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by tptacek
4215 days ago
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In the US, that works to the benefit of the contractor; the problem is that clients know that, so if you look like someone the IRS might classify as a full-timer (an unincorporated sole practitioner), they may preemptively withhold taxes for you. This is a problem a couple friends of mine have had. It seems like incorporation, which is cheap and something you should do anyways, mostly fixes it. |
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In the UK, we have almost the opposite problem.
If you set up a limited company to operate a freelance business, then by default you get to run it like any other business. That means you're responsible for paying your own overheads and doing the same administrative paperwork and taxes as any other company. (Who else is going to pay for or do those things, after all?) However, it also means that if you're the only owner and director, you can treat most of the profits as dividends rather than salary, which can be a significant tax advantage in some quite common circumstances.
Unfortunately, this arrangement was being abused by some people who were in effect working as employees of someone else, who operated with little meaningful independence but were being paid through a company so they could take the tax breaks anyway.
Consequently, with probably good intentions but unfortunately not a very good implementation, a set of rules known as IR35 were introduced that basically said if your arrangement works like employment, you'll have to treat your contract like employment, with the full tax liability that goes with it.
The trouble is that there has never been any useful, objective definition of what counts as working like employment, so all we really have to go on are a few precedents from early cases. In practice, this means every independent professional here who works this way, however legitimately, has this permanent axe hanging over their head. You can pay some accountants for an expert contract review that comes with insurance if they tell you you're OK and you are subsequently determined to be within the scope of IR35 anyway, but that's a lot of hassle and a significant cost if you do change contracts often, so not everyone does.
The tax authorities did make an attempt to codify some more concrete guidelines with their Business Entity Tests a few years ago; those were supposed to give you a clearer idea of how likely you were to fall within the scope of IR35, but the questions were bizarre and completely ignored most of the really important distinctions between an employee and a genuinely independent professional operating as a real one-person company, and the BETs were effectively killed off not so long after they were introduced.
This leaves us back at square one. Despite protests from the independent sector about the ongoing burden of IR35 and the lack of evidence that it has ever generated anywhere near the kind of additional tax revenues it was supposed to, successive governments have maintained the rules arguing that if they removed them now then the floodgates would open and suddenly everyone would be going down the disguised employment path costing the government a fortune.
In practice, the good news for genuinely independent professionals is that the tax authorities have very limited resources to go after small time tax dodgers, so as long as you're behaving reasonably it seems you're unlikely to get in much trouble. This brings me back to where I came in, which is a warning that if you really are trying to operate properly as an independent, a very controlling client who is able to impose obvious restrictions like setting working hours is not something you want pushing you to the top of the pile for an IR35 investigation.