Following a 12 month delay, the updated IR35 legislation went live for large and medium private sector organisations on 6 April 2021. Bethan Gill looks at whether the HMRC CEST tool is really your best option.
At long last, the new IR35 rules on off-payroll workers have come into practice. Given recent events, HMRC have promised a ‘soft landing’ for businesses in the first 12 months, meaning they won't issue penalties where they find inaccuracies. However, this doesn't mean that they won't be actively monitoring compliance with the rules and asking lots of questions of businesses.
We recently surveyed just over 600 Mid-size businesses on how prepared they were ahead of the deadline and found that over one in ten of those surveyed had done only minimal preparation or were in the early stages of their planning.
One area of concern is the reliance of many on the HMRC Check Employment Status for Tax tool (CEST) to undertake employment status assessments. Use of CEST isn't mandated under the legislation.
In fact, our experience of helping clients to navigate the changes to the IR35 rules when they were introduced to the public sector in April 2017 highlighted a number of challenges that the CEST tool couldn't overcome.
On these occasions, our employment tax specialists were able to support clients to comply with IR35, but because advice was provided on a consultancy basis, costs could quickly escalate, especially where required on an ongoing basis.
To help our clients with IR35, we set about developing a digital solution that could incorporate our expertise in an accessible and cost-effective way for clients. So, we created our Employment Status Intelligence Platform (ESIP).
Below, we set out five limitations of CEST that we've responded to with the design of ESIP:
1 CEST only provides a decision in 80% of IR35 cases
The latest statistics released by HMRC show that only 80% of IR35 assessments run through CEST produce an 'employed' or 'self-employed' outcome. The other 20% return a ‘cannot determine’ outcome, which leaves the user in limbo.
In our recent article, IR35 tax reforms: HMRC answers our questions, we explained HMRC’s advice in this situation. As set out in the article, HMRC advise you consult their online manuals, contact their helpline, or seek advice from advisors.
In reality, this is an option for businesses to either make their own decision - which may expose them to increased risk - or seek professional advice that can become expensive.
In response to this, ESIP returns an outcome for every single assessment. We also wanted to reflect the fact that employment status is not just a binary decision, but there might be different levels of certainty between the outcomes, which is the reason so many instances end up in tribunal cases following disagreement between HMRC and the assessor.
ESIP undertakes two assessments; one for % certainty employed and one for % certainty self-employed. The higher of the scores determines the result, with an associated ‘risk of challenge’ rating.
The IR35 risk rating is calculated on the difference between the two status scores - 'employed' and 'self-employed'. Risk of challenge indicates the risk that the decision will be challenged by either HMRC, if a self-employed result, or the contractor, if an employed result.
This lets you analyse your contractor population more fully within the two categories and understand and manage their employment status risk effectively.
Our clients have told us that ESIP is meeting this need:
“CEST often does not give a conclusive answer. ESIP does, and the breakdown into probabilities of successful challenge is both helpful and easy to understand.” CFO at a mid-size business - ESIP customer
2 Subjectivity of input, reliability of output
When using CEST for IR35 assessment, the person who completes the receives an immediate result and the option to edit any answers.
Anyone who has used CEST will know the temptation that exists to amend answers to see how it might rationalise the result, and before long, it's difficult to remember what answer accurately reflects the reality of the engagement and what has been put in as a ‘test’.
In addition, CEST can be completed by either the contractor, the end client or the agency, and my experience suggests that each of these users will interpret the questions and arrangements slightly differently and likely come out with different results.
One of the key parts of the IR35 legislation is the requirement for the end client to demonstrate ‘reasonable care’ in undertaking employment status assessments. This will include processes and controls over who is completing assessments and how the accuracy of input is determined, something that I understand HMRC will look at closely when undertaking reviews.
The difference with the ESIP IR35 assessment tool
We took this into consideration when designing the ESIP assessment workflow, where each completed assessment is peer-reviewed to support the demonstration of reasonable care.
1 the assessment is only completed by the end client, rather than the contractor, as it is the end client who will be held responsible for the outcome by HMRC.
2 the assessment is completed by a ‘specialist’, an individual at the end client who is closest to the detail of the engagement, such as the hiring manager.
Unlike CEST, the specialist does not initially see the IR35 employment status result. Instead, they submit their answers and the assessment then goes through to an ‘approver’, who is a different individual within the organisation who provides a more independent ‘four-eyes’ review of the answers given to ensure accuracy.
The approver can raise questions to the specialist, as required, until they are comfortable to approve the assessment and produce a status determination statement. The assessment process is all recorded within ESIP and acts as an audit trail of how the decision was made, should it need to be reviewed at any point in the future.
We had the opportunity to showcase ESIP to HMRC in autumn 2019 as part of their stakeholder reviews of the CEST improvements.
HMRC ran two IR35 assessments simultaneously through ESIP and CEST; one of which came out with the same result; one of which came out as ‘undetermined’ by CEST, and a ‘high risk’ result in ESIP, which is as we would expect.
The feedback from HMRC was that they were impressed with the design of ESIP and how it supported the demonstration of reasonable care.
3 CEST ignores IR35 mutuality of obligation
This is a challenge that is often levelled at HMRC: CEST doesn't consider mutuality of obligation (MOO) between the contractor and the end client in its IR35 question set.
HMRC have defended this by stating that they consider that MOO exists in all engagements where there is a contractual agreement to supply and provide work, and therefore, it goes without saying that it's present. However, when this has been tested in tribunal situations, it's regularly considered beyond this assumption.
The ESIP algorithm has been developed by our team of employment tax experts with many years of combined experience in employment status assessments and HMRC approach.
We've designed a question set that covers the various categories that make up IR35 employment status, including MOO, which for us, includes consideration of the current, prior and future relationship between the end client and the worker.
In addition, we've built ESIP to reflect the approach that we see tax tribunal judges take time and again. This is about building up an overall picture of the nature of the engagement and effectively weighing up the factors on either side of the argument before coming to a conclusion.
In contrast, CEST understandably reflects the approach of a tax inspector and takes a less-balanced view to status assessments.
4 Will HMRC ‘stand behind’ CEST IR35 results?
We know a lot of organisations believe they should be using CEST for IR35 assessment because HMRC have said they will stand behind the results of its assessments. However, it's important to note that HMRC has said they will stand behind the logic that CEST is based on, rather than accept the result without question.
Instead, they will challenge the accuracy and objectivity of the answers given, which we have seen on a number of occasions with cases that have gone to tribunal. This highlights again the importance of taking reasonable care when completing assessments, regardless of how these are undertaken.
HMRC guidance is clear that there's no requirement to use CEST for IR35 employment status assessments, and alternative software or professional advice is also an option. Indeed, referring back to the fact that CEST has a 20% gap of results, having an alternative option is pretty much a necessity.
We have a lot of confidence in the logic we've built into ESIP, which we've tested against CEST in the presence of HMRC. We also undertake regular quality testing on the questions and logic, including testing tribunal cases as they're released, to provide assurance to our clients that they can trust the expertise on which ESIP is built.
5 CEST requires a manual record-keeping process
Perhaps one of the biggest challenges of using CEST is the fact that it doesn’t retain a record of the IR35 employment status assessments undertaken.
We've already mentioned the requirement to demonstrate reasonable care as a key part of the IR35 legislation, and businesses will need to demonstrate the processes and controls that they have in place to do so.
When using CEST, this can become a manual process, with various stakeholders involved at different stages, many documents to be collated and stored, and a lot of admin involved in ensuring compliance across the business.
With ESIP, we were keen to create something that would act as a contractor management tool as well as undertake assessments. Assessments are stored against the individual contractor record, which includes a full audit trail of the decision showing who undertook the assessment, any dialogue that occurred in reaching the decision, as well as the contract and any other documents that were used to inform the answers.
ESIP's design means that, at any one time, it's possible for senior managers in the organisation to know how many contractors are in the business, which departments they are working in, and what their current employment status is.
ESIP also acts as a monitoring system and issues reminders for reassessment at either 12 months or on a change of details, whichever is sooner, further supporting compliance with a reasonable care approach with minimal admin for users on an ongoing basis.
Client feedback supports this aspect of ESIP:
“Great tool, which is a lot easier to use than the CEST tool. The GT tool gives us an organisational view of non-payroll workforce, which the CEST tool does not.” HRD at a large corporate – ESIP Customer
IR35 is here and ESIP makes it manageable
The IR35 rules are notoriously difficult to apply because employment status is such a subjective area. There isn't a clear set of guidelines to follow to determine employment or self-employment. Fortunately, there's a lot of established case law for practitioners to work through.
We've done the hard work in designing the algorithm and platform for you. ESIP not only provides a comprehensive assessment but also supports the management of the contractor population and history in a user-friendly, accessible platform.
Perhaps most importantly is the quality of the support that we provided for both ESIP and employment in general. As one client put it:
“Excellent tool and excellent support!”
To join the many clients who are already experiencing the benefits of the ESIP IR35 tool, book a demo.