Categorized | ir35 insurance, ir35 rules

As a contractor, what impact will IR35 have on my take home pay?

As a contractor, what impact will IR35 have on my take home pay?
Choose a Name: The name has to be unique, obviously, and not likely to be confused for someone else’s existing name. The best reference point is the Companies House website – www.companieshouse.gov.uk – which has a simple search facility so you can check your chosen version. Also, try to avoid names that are specifically related to your line of work, just in case you want to change careers later: imagine selling cars though a company called Al’s Bakery.
Decide on Share Ownership: Is this just you, or you and your spouse, or you and two or three other people? This is important, because it defines how to allocate the Ordinary Shares In the company. Dividends are paid in direct proportion to numbers of shares held. A husband and wife typically have 50% each, for example, but if one is already earning money, be aware of the impact of the share income on their tax position. Share allocation can be changed after the event. There are several variations on share management; but for anything other than a simple allocation of ordinary shares, get expert advice.
Register at Companies House: There is an online system you use to set up your company and pay the registration fee. It is fairly simple to use. One question it will ask is who the directors are. For a typical small contractor company you only need one but there’s no reason not to have more. Although not strictly necessary any more, it also helps to nominate a Company Secretary: this could be the same person, but it’s more sensible to have someone else, a partner or relative for example.
Register a Memorandum of Association: Something else to do while you are at Companies House. At its simplest this is a document describing what your company is for and how you wish to run it. You can do it yourself, but the document can have legal implications in a tax investigation so do some online research for a suitable template from sites such as www.simply-docs.co.uk or www.clickdocs.co.uk.
Set up a Bank Account: This has to be a business bank account. Banks are increasingly wary of new business accounts, so you will have to answer some detailed questions and it will help if you have some professional references and a signed contact to demonstrate you actually will have an income.
Register for VAT: You have to do this if your annual income is in excess of a set amount (currently £67,000 pa) but it Is advantageous to register anyway. VAT and the Flat Rate Scheme are discussed in more detail elsewhere.
And that’s it. It sounds complicated but is in fact quite straightforward. You can also take the easy way out; either use a company formation agent, or there are several accountants who specialise in contractors who will set up all if the above for you for a small fee, or even for free, as well as providing expert support. Finally keep track of all your various expenses setting the company up, since you can reclaim these once you start trading.

While it is fair to say that IR35 will have an impact on your own net income, quantifying exactly how much impact is not that simple, since there are several variables. You can, however, compare the overall results in general terms.

There are basically four ways to get paid as a freelance contractor: under normal PAYE, either on a fixed term contract or as an agency employee, through an Umbrella company, with your own company operating inside IR35 or with your own company operating outside IR35.

Normal PAYE

Whether you are on a Fixed Term Contract – essentially a normal employment contract but with a pre-agreed termination date – or are employed by the agency who found the work, you will be treated as a normal employee for tax purposes and pay all the usual taxes and NICs. Expenses are very much at the discretion of the employer or agency, but will be limited.

IR35 cannot apply and hence has zero impact.

Umbrella Company Contractor

You are in effect an employee of the umbrella and so IR35 cannot apply. Once again, you pay full PAYE and NICS on your income. However, out of your gross you also have to pay Employers NICs (usually the contract rate will have been raised to cover this cost) and the umbrella’s service fees. You can, however claim various working expenses that will reduce your overall tax burden; in effect the costs you incur by working become tax-free income. Beware, though, that all such expenses have to be justified and verifiable and treat claims by umbrellas that they have generous expense policies to increase your take-home with a degree of caution. The umbrella will also make other deductions to cover various statutory requirements such as holiday pay and pensions

The end result is you will take home more net income than straight PAYE, precisely how much depends on your level of working expenses.

Own Company inside IR35

At its simplest, and starting with your gross income from the contract, you can deduct 5% to cover operating costs of having your own company, allowable business expenses such as travel and equipment costs, Employers NICs paid during the year and any salary paid during the year. The balance remaining is the “Deemed” income and is liable to full PAYE and NICs.

In terms of overall impact, you are paying tax on 95% of your gross rather than the 100% if you are working through an umbrella, so there is a small benefit to this approach.

Own Company outside IR35

You can set a salary level of your choosing and then take any post-tax profits in the form of dividends, which are not liable to NICs. Setting a gross salary to the same as the tax free personal allowance therefore means you can save significant amounts of taxation. You offset salary payments, working expenses and other costs such as training (which is not allowable under IR35) and pension payments against your gross, pay Corporation Tax on the net profit, the balance being the amount available to you as dividends. You can also leave some or all of those profits in the company for later years.

The overall impact is that you will retain a higher percentage of your gross income than through any other route. However, it does mean that you have to be certain of your IR35 status.

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