What is the small companies’ exemption for off-payroll rules?
What is the small companies’ exemption for off-payroll rules?
Any organisation in the private sector that uses contractors should check what their responsibilities are under the off-payroll rules (commonly referred to as the IR35 rules). However, these rules do not apply to small businesses of all types. Where small businesses are engaging contract workers through an intermediary, the responsibility for applying the IR35 rules remains with the intermediary: an intermediary can be a partnership, LLP or single person limited company, but the most common example is a personal service company or ‘PSC’.
While these rules do not apply where an organisation engages a sole trader (self-employed) individual, the usual employment status tests are still relevant, so equal care should be taken to ensure that you identify any employment relationship created.
Latest news
The Companies Act size thresholds will be increasing for accounting periods starting on or after 1 April 2025 – see below.
What is a ‘small’ business for off-payroll/IR35 purposes – current rules?
A business will always be small for its first financial year (of trading) and will continue to be treated as small until it fails to meet the requirements to remain small.
The definition of what is a ‘small business’ is taken from the Companies Act 2006 and will apply to limited companies, LLPs, unregistered companies and overseas companies.
A business will be small if it satisfies two or more of the following requirements:
a) It has an annual turnover not exceeding £10.2m
b) It has a balance sheet total not more than £5.1m
c) It had an average of no more than 50 employees for the company’s financial year.
For accounting periods beginning on or after 1 April 2025, thresholds a) and b) above are increasing to:
a) It has an annual turnover not exceeding £15m
b) It has a balance sheet total not more than £7.5m
The employee threshold of 50 workers will remain.
To determine whether the small business exemption applies to a tax year, these requirements are applied to two consecutive financial years ending before the tax year you are testing; the latest financial year where the filing date for the accounts ends before the beginning of the tax year and the financial year before that one.
Where two or more of these requirements are met for two consecutive financial years, the business remains small and responsibility for applying the IR35 rules remains with the intermediary.
In practice, for a company that is currently not small, this means that the potential impact of the increasing thresholds will take some time to come take effect as set out in this example.
Example – Stable Co Ltd
Stable Co has been trading for many years and has a 31 March year end and unchanging financial numbers with an annual turnover at £11m, a balance sheet value £6m and 80 employees. Stable Co’s position for the changing thresholds will be:
2025/26 tax year = not small for APs ending 31 March 2024 and 2025
2026/27 tax year = not small as AP ending 2025 was not small
2027/28 tax year = small as Aps ending 31 March 2026 and 31 March 2027 qualify as small.
Of course, in the real world a business’s numbers can fluctuate significantly. If this means that the requirements cease to be satisfied, the business must apply the IR35 rules from the start of the tax year following the filing date for the second financial year. Depending on the business’ accounting year date, the amount of time a business has to begin applying the rules will vary:
|
Financial year in which the business ceases to meet the requirements |
Filing date |
Date from which the IR35 rules must be applied |
|---|---|---|
|
31 December 2023 |
30 September 2024 |
6 April 2025 (6 months and 6 days after the filing date) |
|
30 June 2023 |
31 March 2024 |
6 April 2024 (6 days after the filing date) |
Takeovers
It is important to remember that a company can cease to be small through acquisition. If a small company is purchased by a larger business, it remains small during the accounting period of acquisition and only comes into the off-payroll rules at the start of the tax year following the filing date. Purchasing companies should understand the position for new group companies and ensure that off-payroll labour processes are put in place at the appropriate time.
Unincorporated businesses
Unincorporated businesses (not including LLPs) will only need to consider the turnover test to establish whether they are small, and it will only be by reference to the last financial year ending at least 9 months before the start of the tax year.
The IR35 rules must be applied from the start of the tax year following the financial year in which the turnover limit is exceeded, provided that financial year ended at least 9 months before.
Similar rules apply to sole traders, but the test is based on the calendar year ending before the start of the tax year.
Groups structures and joint ventures
Where a business is in a group structure or part of a joint venture, as determined by the IR35 rules, the small business test will need to be applied to the group as a whole and will apply to the aggregate turnover and balance sheet total of all connected entities or persons. This is to avoid medium or large sized companies setting up smaller subsidiary companies
to engage workers with the aim of avoiding the requirement to apply the IR35 rules.
Key points
- Businesses engaging workers should consider whether or not the small business exemption applies to them (and although you may currently qualify as small, as you grow the IR35 rules may need to be applied at some point).
- The group structure of a business should be fully understood to ensure that all relevant entities/persons are included when calculating whether the small business test conditions have been met.
- Where a business is exempt because it qualifies as small, it should ensure that the intermediaries it uses are aware of this so they apply the IR35 rules themselves, especially as the intermediaries have the right to request confirmation whether a business qualifies as small.
- Similarly, should a business cease to be small, the intermediary must be made aware that responsibility for applying IR35 will pass from them to the business.