Correctly labelling a worker as employed or self-employed will be critical under a new industry scheme. Ceri Durham gives an overview of the pitfalls contractors need to avoid.

The Inland Revenue has once again turned its watchful eye towards the construction industry. Figures suggest that it has sent approximately 57 000 letters to contractors and their sub-contractors questioning whether sub-contractors are correctly classified or should be having tax deducted from their wages by PAYE. This action comes as a warning prior to the enforcement of the new Construction Industry Scheme (CIS), which is meant to take effect from 6 April 2006.

Draft provisions indicate that contractors will be required to certify that only payments to the genuinely self-employed have been made under the scheme. Failure of businesses to correctly declare the status of a worker may result in a monthly penalty of up to £3000. So, correctly labelling a worker as employed or self-employed will become of utmost importance to any construction business.

The perils of contractors
Once a business is under inspection, the Inland Revenue may decide to scrutinise any previous years’ payments and tax returns. If the business has got it wrong, it may end up owing a small fortune in unpaid tax and National Insurance plus interest. It has been estimated that the total tax bill for unpaid tax and fines could easily reach £50 million across the construction industry.

The fact that a sub-contractor holds a CIS registration card will give no protection to a contractor faced with an employment status investigation. If, in reality, the engagement looks more like employment, the contractor must operate PAYE. Determining employment status is a highly intricate area and contractors faced with such a responsibility are encouraged to seek professional advice.

The Inland Revenue’s letter gives a simple checklist (see box, right) to sub-contractors in an attempt to help them establish their employment status. The letter also suggests that by answering ‘yes’ to more than one of the questions it is likely that the sub-contractor will be an employee. What the Inland Revenue questions ignore is that, while answering positively to all questions may indicate the contractor is not self-employed, he may nevertheless be a ‘worker’ rather than an employee.

Workers have some employment entitlements, like a right to paid holidays, but not to others, like unfair dismissal rights. If a worker is not provided with his correct entitlements, he may be able to bring a claim against his ‘employer’ in an employment tribunal.

How to minimise risk
Contractors should undertake a thorough review of the actual terms of engagement of any sub-contractor, whether written, agreed orally or implied. They will need to realistically assess and examine:

If a business has got it wrong, it may end up owing a small fortune in unpaid tax and National Insurance not to mention interest.

  • The level of control they maintain over the work of any sub-contractor.
  • Whether the sub-contractor has ever substituted someone else to do his work.
  • Whether the sub-contractor can work for others.

If sub-contractors are allowed to dictate their own hours and patterns of work and could work elsewhere, this helps indicate they are genuinely a contractor and not an employee or a worker. The principle test which has been used most recently is that of ‘personal service’. If an individual is allowed to substitute someone else to do his job, this will be a key factor to indicate that he is a contractor. Even where the substitute had to be first approved by the company – the fact that someone else could carry out the job meant the person was a contractor. Contractors can minimise risks by:

  • Expressly providing that the company is under no obligation to provide work and similarly that the contractor is under no obligation to accept work.
  • Providing for a substitution clause in the agreement so that the sub-contractor can freely send someone else to carry out the work if he is not available.
  • Ensuring sub-contractors are treated differently to employees, for example by ensuring that the sub-contractor is not subject to the disciplinary and grievance rules of the company.
  • Placing some financial risk on the sub-contractors.

Contractors who are in doubt over the status of their sub-contractors are advised to seek professional legal and tax advice.

Ceri Durham is a solicitor with Clarks. E-mail: cdurham@clarkslegal.com or visit: www.clarkslegal.com

What the Revenue wants to know

‘We’ve looked at our records and believe that your employment status may have been declared wrongly and that it might be more appropriate for you to be on the books as an employee.

If you can answer yes to more than one of the following questions and are currently classed as self-employed, you should speak to your contractor, as it is likely that the Revenue will consider that you should be taxed as an employee.

  • Must the work be done by you?

  • Are you told what to do, where to work or when and how to do it?

  • Do you use none or only a few of your own hand tools?

  • Does the contractor supply the bulk of the materials, plant and equipment?

  • Are you paid a set rate for your work or by the hour, week or month?

Source

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