Contractor model decision tree
PSC in place?1
Yes
No
Use PSC2
Length of
engagement
Under one year
Over one year
Registered
self-employed3
Earning over
£40,0004
Yes
Construction
work?5
No
No
Yes
SDC?6
PSC
Yes
Yes
No
CIS7
Umbrella8
High risk9
Yes
No
Umbrella8
Self-employed10
Link to guidance
1.
PSC guidance: what it is, how to register and
what to consider
2.
IR35 guidance
3.
What is self-employed?
4.
Rationale behind question
5.
What is construction work?
6.
Explanation of supervision direction and control
7.
Construction Industry Scheme explanation
8. Umbrella model, factors to consider
9.
List of high-risk sectors
10. Guide to self-assessment for self-employed
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1. PSC guidance: what it is, how to register and
what to consider
There is no specific definition of a Personal Service Company.
In general parlance it has come to mean a company whose sole
director/employee is working for third parties.
There are a number of reasons why a PSC is set up including:
yy Limited liability – the business assets are ring fenced,
unlike sole traders where the business owner will be
personally liable for all business debts; and
yy Often end users will insist on engaging non-payroll labour
through agencies or PSCs only due to the tax risks, if the
worker is deemed to be an employee of the end user,
staying with the agency/PSC.
As the PSC is a company constituted and registered in England
& Wales/Scotland/Northern Ireland, there are compliance
obligations greater than sole traders. Tax returns will be
required as the worker is a director of the company but also
there will be the need to submit annual returns to Companies
House, dividends must be approved by the board and are only
payable from profits and annual accounts must be compiled
(although generally the PSC will not be large enough to require
those accounts to be audited). Due to these compliance
obligations, which are required even if the company only trades
briefly, it is not recommended to incorporate a business for
short term contracts.
Depending on how the contractor extracts the funds from
the company, this will impact on the levels of tax paid. If
the contractor takes the money out as salary, they will pay
income tax and NIC (at a combined rate of up to 47%) plus
the company will pay employer’s NIC at 13.8%. If however
payments is in the form of dividends, income tax of up to 38.1%
(but no NIC) will be payable, although this would be on the net
amount after corporation tax (currently 20%) has been paid. It
is of course possible for the contractor to extract the funds in a
mixture of salary and dividends, the exact mix suitable for them
should be discussed with their accountant.
If the PSC has a turnover exceeding £83,000 a year (2016
limits), it must register for VAT. If the turnover is below
£150,000 a year (2016 limits), the flat rate scheme can be
applied which means VAT need only be charged between
8% and 14.5%, depending on the services provided. With
effect from 1 April 2017 the VAT flat rate percentage will be
increased for most contractors to 16.5%. 2. IR35 guidance
IR35 is the name of the HM Revenue & Customs (HMRC) note
announcing a change in policy in respect of workers engaged
via PSCs.
Essentially this states that where a worker is providing services
to an end user and would be considered to be an employee
of the end user but for the PSC (which in strict terms is the
worker’s employer), IR35 obliges the PSC to operate PAYE/
NIC on the payments extracted by the worker from the PSC in
respect of the payments received from the end user.
IR35 only applies if the contract for services is between the
end user and the PSC, payment is made from the end user to
the PSC and the PSC is registered in the UK. If these conditions
do not apply and the worker is deemed to be an employee of
the end user, the PAYE/NIC liability falls on the end user.
For IR35 to apply there must be a deemed employment
contract between the worker and the end user. For that
contract to be deemed, the following factors are taken into
account:
yy Does the end user control the work done by the
contractor? Please note this is a separate test to
Supervision, Direction or Control in note 6.
yy Is the worker personally required to provide the services
as opposed to be able to send a substitute?
yy Is there a lack of financial risk to the worker in engaging
with the end user as payment will be assured and there is
no opportunity to make a profit or loss?
yy Does the worker expect work to be offered and similarly,
when offered, does the end user expect the worker to
accept it? This is known as mutuality of obligation.
If any of these tests are met, other factors such as is the worker
considered part and parcel of the end user’s workforce (such
as appearing on the staff directory, having a parking space and
email address) and are benefits akin to employees provided
(such as pension contributions and holiday/sick pay) provided
will also be taken into account.
The guidance above only relates to workers providing services
to the private sector via PSCs. Workers providing services
to the public sector via PSCs are subject to different rules
and separate advice will be required. ‘Public sector’ in this
context is any organisation covered by Freedom of Information
legislation.
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3. What is self-employed
4. Earning over £40,000?
Workers who are self-employed are responsible for their own
taxes, are not afforded employment protections (unlike agency/
umbrella workers) and their personal assets are not protected
from business liabilities (unlike limited companies).
The guidance notes for option 1 explain what a PSC is and what
it entails.
Self-employment is a popular and flexible working option and
for workers engaged by end users as self-employed but who
HMRC considers to be employees, the PAYE/NIC risk falls on
the engager and not the worker.
The profits made by working as a self-employed worker are
taxed at standard income tax rates – the same as an employee
although in practice self-employed workers generally pay lower
levels of tax compared to comparable employees as deductions
from taxable income are more generous. For example
the standard test for deduction of expenses from taxable
employment income is that the expense must be incurred
wholly, exclusively and necessarily for the performance of
the duties. For self-employed workers the exclusively test is
not applicable and therefore while an employee cannot claim
a deduction for mixed business/personal expenses, a selfemployed worker can claim a deduction for the proportion
related to business.
With regards to NIC, self-employed workers pay Class 2 NIC
(at a flat rate, currently £2.80 a week but collected annually
through the tax return) plus Class 4 NIC on profits (a standard
rate of 9% compares marginally favourably against the
comparable employee rate of 12%). For higher rate taxpayers,
the marginal tax and NIC rates for employees and selfemployed workers are the same, therefore self-employment
for these workers is unlikely to be tax-driven. Please note
though that Class 2 NIC will be merged into Class 4 NIC with
effect from 6 April 2018 – the exact structure of the new
Class 4 NIC is yet to be confirmed.
Due to the additional compliance requirements, PSCs are only
suitable for longer term agreements of at least a year.
One of the advantage of the PSC model is that, structured
correctly the tax due would be lower than would be the case
for employment or self-employment as the table below shows.
Salary
Dividends
SE profit
Pre-tax profits
£44,401
£44,401
£44,401
Employers’ NIC
(£4,401)
Gross salary/
drawings
£40,000
£8,000
£44,401
Profits chargeable
to corporation tax
£36,401
Corporation tax
(£7,280)
Dividend
£29,120
Personal allowance
(£11,000)
(£11,000)
(£11,000)
Taxable income
£29,000
£26,120
£33,401
Tax/NIC on salary/
drawings
(£9,633)
£0
(£10,133)
Tax on dividend
Net pay
Effective tax rate
(£1,584)
£30,367
£35,536
£34,268
31.61%
19.96%
22.82%
The above figures are based on 2016-17 tax rates
For a guide to self-assessment for self-employed workers, see
note 10.
A self-employment business is treated the same as a PSC for
VAT purposes and therefore if the sole trade has a turnover
exceeding £83,000 a year (2016 limits), it must register for
VAT. IF the turnover is below £150,000 a year (2016 limits),
the flat rate scheme can be applied which means VAT need only
be charged between 8% and 14.5% depending on the services
provided. With effect from 1 April 2017 the VAT flat rate
percentage will be increased for most contractors to 16.5%.
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5. What is construction work?
The definitions below are relevant for income tax, and in
particular the Construction Industry Scheme for income tax
withholding. Therefore there are activities which under their
usual meaning could be considered to be ‘construction’ but
have been specifically carved out of the tax definition.
Essentially all construction work in the UK and UK territorial
waters is covered. Most construction operations are carried
out as work on buildings and structures and can be permanent,
temporary or offshore.
Construction is a broad term that covers all of the following, to:
yy Build
yy Make
yy Put together
yy Assemble
Construction does include the assembly of prefabricated units
and site facilities.
The main types of construction work are:
yy Alteration – where a building or structure has been made
different in any way. Alterations can be major or can be as
simple as an adjustment or modification.
yy Repair, including ‘making good’ and replacement of
defective or damaged parts of a building or structure.
Repairs also include repair of a building or structure that is
necessary following a repair to any systems in the building
or structure, even though a repair to the system itself isn’t
a construction operation for the purposes of the scheme.
yy Extension – adding to or enlarging an existing building or
structure.
yy Demolition – pulling down a building or structure.
yy Dismantling – taking a building or structure apart. This
is usually where the materials are expected to be used
again. Sometimes part of a building may be destroyed or
dismantled prior to a refurbishment or to its use being
changed. Often this type of work will be an alteration
to the building or structure as well and the legislation is
broad enough to include any work that involves any of the
following:
yy
Taking a building or structure apart.
yy
Totally destroying a building or structure.
yy
Rebuilding a building or structure.
yy
Altering a building or structure.
The resulting building or structure may be permanent or
temporary.
yy Works forming part of the land – all types of construction
work that don’t involve buildings or structures are called
works forming, or to form, part of the land including minor
works, such as a wooden fence with concrete posts, major
works such as roads, railways, bridges, harbours and
power lines plus industrial plant such as petrochemical
plant, a silo, tank or water treatment plant. Plant that is
located in a building will not form part of the land and
so will not fall within the scheme under this section.
However, in some circumstances the installation of plant
may require that the building be altered to accommodate
or remove the plant so this will still be a construction
operation.
yy Alteration, repair, extension, and demolition of works
forming part of the land are also construction operations.
yy Installation of systems – something that is made up of
connected parts to perform a particular function such
as systems of heating or lighting. The scheme includes
the installation of ‘systems’. As such, it includes the
installation of complete systems rather than parts of a
system. Complete systems will be installed in new builds
or existing buildings and structures undergoing reapplydevelopment. Repairs to a system, such as new taps on a
sink or an extension to a system such as adding an extra
radiator are not installations of systems and are therefore
not included within the scheme.
yy Internal and external cleaning – this is regarded as a
construction operation if it’s undertaken whilst the
construction contract is ongoing. External cleaning or
routine cleaning of existing commercial or industrial
premises that are not undergoing any types of
construction operations isn’t regarded as a construction
operation unless it’s preparatory to painting and
decorating.
yy Painting and decorating.
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yy Integral works are works that must be carried out for
a construction operation to be completed for example
erection of scaffolding might not be considered to be
the construction of a structure in its own right, but it’s a
construction operation because it wouldn’t be possible to
carry out other works that are construction operations
without it.
yy Preparatory works – works that must be carried out
before a construction operation can be started such
clearing a site or draining land in a flood plain before
building houses.
yy Finishing operations – work that ‘renders complete’
or ‘finishes off’ any of the construction operations in
the previous paragraphs. For example in most modern
commercial buildings much of the internal fixtures and
fittings will be included in the design specifications and a
building will not be considered complete without them.
Finishing operations aren’t regarded as construction
operations in their own right. They must be considered
as part of the overall work that is being carried out
as well as part of the contract as a whole. Often, the
same work won’t be a construction operation when
it’s carried out as an independent activity such as tree
planting and landscaping in the course of forestry or
estate management are not construction operations or
tree planting and landscaping as part of a new housing
development are construction operations. The only
exception to finishing operations is carpet fitting. Carpet
fitting (but no other floor covering) is regarded as
excluded from the scheme. However, if carpet fitting is
part of a wider construction operation, carpet fitting will
be included within the definition of construction.
Some operations are specifically excluded from the
definition of construction for income tax purposes.
Where a contract includes operations that are
construction operations and operations that aren’t
construction operations, all payments for both types of
work will fall within the scheme.
yy Drilling – work connected with actual, physical extraction
of minerals or natural resources.
yy Extraction, including drilling for oil and gas, pumping
of oil and gas, digging for coal and other minerals from
underground deposits, removal of coal and other minerals
from underground deposits and associated surface
workings, such as open cast mine quarrying. Work
connected with the primary purpose of mineral extraction
also isn’t a construction operation including tunnelling,
boring and shoring up tunnels in mines, installing rail
systems, conveyor systems and other systems. This is
in contrast to tunnelling done in connection with the
construction of a mainline railway for example, which
would be a construction operation because it’s an integral
part of the construction of a work forming part of the
land.
yy Manufacture of building or engineering components and
delivery.
yy Manufacture of components for systems such as heating,
lighting, air-conditioning and ventilation. Delivery of these
is also not a construction operation.
yy Professional work done by architects and surveyors as
part of their normal professional discipline, whether on or
off site, isn’t a construction operation. The only exception
is where a professional goes beyond their professional
discipline to take on the role of developer or main
contractor in addition to providing professional services.
In this case, the work isn’t excluded from the scheme. The
work of other professionals is excluded only if they are
acting purely as consultants. Typically, this would include
the production of designs, plans, technical assessments
and reports relating to construction projects including
site testing. Any work that goes beyond a consultative or
advisory role and becomes the supervision of labour or
the co-ordination of construction work using that labour
isn’t excluded from the scheme.
yy Artistic works but only to the extent they are wholly
artistic. If the works fulfil a normal functional purpose
associated with a building, they aren’t excluded from the
scheme. For example a statue, even if commissioned with
a new building, has no function other than to be enjoyed
as an artistic work - its construction and installation
wouldn’t be regarded as a construction operation or a
stained glass window with artistic merit, but it’s a window
that lets in light and is a decorative version of a common
feature of a building, so its construction and installation
would be regarded as a construction operation
yy Signwriting and work related to signboards and
advertising boards is excluded from the definition of
construction for these purposes. This exclusion is very
specific and doesn’t extend to traffic signs or street
furniture.
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yy Seating, blinds and shutters in theatres, sports stadiums
and other locations, and fixed seating is excluded from
the definition of construction. This exclusion also covers
louvered shutters, venetian blinds, other similar internal
blinds, and curtain fittings. Awnings aren’t excluded.
yy Installation of security systems that are dedicated to
security only is excluded from the scheme. Specific
types of systems specifically mentioned in the legislation
are burglar alarms, closed circuit television and public
address systems. Preparatory works on the land such
as digging, building/erecting concrete posts on which to
install the closed-circuit television (CCTV) is within CIS.
For example the installation of a computer controlled
centralised locking system with programmable key cards,
such as those used in hotels, would be excluded from
the scheme. The installation must be a system and not
simply a building feature that incidentally fulfils a security
purpose. Examples include doors equipped with locks
provide a measure of security, but they don’t represent a
system, so they wouldn’t be excluded from the scheme,
fencing may deter intruders but it’s a traditional feature of
buildings and their surrounds and not a security system,
even if it has security features, so it wouldn’t be excluded
from the scheme.
6. Explanation of supervision direction and
control
There are a few points to bear in mind regarding the
supervision, direction and control (SDC) tests:
yy The test is a negative, ie it does not apply only if it can be
shown the worker who personally provides the services is
not subject to SDC;
yy SDC can be exercised by anyone involved in the work
undertaken and is not limited to the end user of the
services – it can include the agency, project managers,
consultants etc;
yy It is not necessary that SDC is actually exercised, simply
that it can be exercised;
yy HMRC would look at the facts as a whole – a contractual
clause saying there is no SDC would not be sufficient in
itself;
yy Workers subject to external regulations due to the
industry they operate in (for example healthcare) will be
assumed to be operating under SDC;
yy It is an ‘all or nothing’ test – SDC is met or not; and
yy Deeming direct employment of the worker by the end
user (eg IR35) would imply SDC but in contrast SDC
existing does not automatically deem employment.
HMRC has given some examples of SDC on its website at
www.gov.uk.
7. Construction Industry Scheme explanation
The Construction Industry Scheme (CIS) is a tax withholding
at source scheme for individuals and companies undertaking
construction work. Workers actually doing the work are known
as subcontractors.
For subcontractors, the following points need to be
considered:
yy CIS registration is recommended and can be done online;
yy The company paying the contractor will make that
payment subject to the required CIS deduction. For CIS
registered subcontractors, the deduction will be 20%
(unless gross payment status is held). For subcontractors
not CIS registered, the deduction is 30%;
yy The subcontractor will be notified of the amounts paid
and the deductions made; and
yy A tax return will be required (as the subcontractor is
self-employed) and the amounts withheld under CIS at
the time of payment are offset against the overall tax/NIC
liability.
yy Gross payment status, whereby no amounts are withheld
at the time of payment, is available. However on the
basis that one of the requirements is an annual turnover
of £30,000 and the decision making tree would divert
workers earning over £40,000 to a PSC model, it has not
been considered further here.
8. Umbrella model, factors to consider
An umbrella company is a company that acts as an employer
to agency contractors who work under a fixed term contract
assignment, usually through a recruitment employment
agency in the UK. Recruitment agencies issue contracts to a
limited company as the agency liability would be reduced. It
issues invoices to the recruitment agency (or client) and, when
payment of the invoice is made, will typically pay the contractor
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through PAYE with the added benefit of offsetting some of the
income through claiming expenses such as travel, meals, and
accommodation.
An umbrella company processes timesheets received from the
employee/contractor, then issues an invoice to the client for
payment.
As the umbrella company is an employer, contractors working
with them must sign a contract of employment and understand
they are an employee whose pay will be subject to PAYE.
The umbrella company is obliged to give certain employment
related benefits such as the opportunity to enter a pension
scheme and paid leave (holiday, sick leave and maternity/
paternity leave). The contractor is also entitled to employment
rights such as protection from unfair dismissal and minimum
notice periods.
yy Data entry
yy Document controllers
yy Hospitality
yy Industrial
yy Lab technicians/biomedical scientists
yy Labourers
yy Light industrial
yy Low skilled/admin roles
yy Mail centres
yy Non-skilled manual workers
yy Package handling
yy Pharmacy technician
As the employment relationship is one of agency worker,
the terms of the agency worker regulations which stipulate,
amongst others, that the employee is entitled to pay between
assignments, also applies.
yy Restaurant/food service
yy Retail
yy Secretaries/personal assistants
The umbrella company provides payroll on behalf of the
contractor and bills the agency (who in turn bills the client)
for work completed by the contractor. The umbrella company
operates PAYE and NIC on behalf of the contractor and is liable
to employer’s NIC.
yy Social care
Since April 2016 umbrella employees operating under the
supervision direction or control (see note 6) of the umbrella
company, agency or end user are not entitled to claim taxfree travel between their home and work even where the
placement is for under 24 months.
Self-employed workers are responsible for declaring and
paying their own tax. Annual tax returns are required to be
submitted by 31 January following the end of the tax year and
instalment payments of tax/NIC are due on 31 January and
31 July with balancing payments due when the return is filed.
A further consideration is that there are complex basis period
rules for calculating profits in the opening years of trading,
which can lead to an element of double taxation unrelieved
until trading ceases or the basis period is changed (although
there are further restrictions on changing these periods),
unless the basis period equals the tax year.
9. List of high-risk sectors
yy Agricultural
yy Assembly plant
yy Benefits assessor/housing/council officer
yy Call centre
yy Warehouse
10. Guide to self-assessment for self-employed
Professional advice in what can be claimed as deductions,
calculating of trading profits and completing tax returns is
recommended.
Saffery Champness’ Contractor Model Decision Tree is published on a general basis for information only and no liability is accepted for errors of fact or opinion it may contain. Professional
advice should always be obtained before applying the information to particular circumstances. J6748. © Saffery Champness February 2017.
Saffery Champness is regulated for a range of investment business activities by the Institute of Chartered Accountants in England and Wales.
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