UK Fact-File Part 6:
Individual Business Employment Issues
6.2 UK Employment vs Self-Employment Tax Issues
The differences between employment and self-employment
An employee is employed by a business (incorporated
or otherwise) and is paid (monthly or weekly) through the
PAYE income tax system. The employer must deduct income tax
and class 1 national insurance contributions (which allow
the taxpayer to build an entitlement to various social security
benefits, including the State Pension) from the employee’s
wages and the employee is paid net of these deductions. The
employer also makes NIC contributions on behalf of their employee.
Employees will receive a personal annual allowance, which
is applied before income tax liability is calculated. An employee
will not normally be required to complete an annual tax return,
unless they fall into a higher bracket of income or if they
have some other form of taxable income (such as interest from
investments, property rental income, or a second form of employment).
A self-employed individual (sole trader or a small business)
is responsible for paying his or her own income tax and national
insurance contributions. They must submit an annual self-assessment
tax return to HMRC. A self-employed person will be entitled
to the personal annual allowance but can also offset overall
tax liability by deducting allowable business expenses and
costs (eg property rent, business rates, staff wages).
A self-employed person in the UK must pay class 2 NICs (which
relate to benefits including the basic state pension, maternity
leave and Bereavement Benefit, but do not count towards the
additional State Pension, Statutory Sick Pay or Jobseeker's
Allowance), and also class 4 NICs in some cases (depending
on turnover; class 4 NICs are imposed at 8% on annual profits
between GBP5,715 and GBP43,875 (2010-11) and 1% on any profit
over that threshold).
Any individual employed by a self-employed person or sole
proprietor should be regarded as an employee, and the legal
requirements specified already in this section should be observed
with regard to income tax and NIC deductions.
Employee or self-employed contractor? The so-called IR35
legislation seeks to eliminate the avoidance of tax and national
insurance contributions by companies who use intermediaries
or Personal Service Companies rather than employing the individuals
directly, with all the tax, national insurance and obligations
that this entails. The legislation seeks to ensure that if
the status of a worker and a client would normally have been
that of employer and employee, then liability for income tax
and NIC would be that applicable to such a relationship.
There are a number of different factors that can be used
to determine employment status; but roughly speaking, an employee
can be defined as someone who:
- Must do the work set by the client/employer (as the case
may be!) themselves, and must do it at a specified time
and place, and in a in a specified way;
- Can work a set number of hours;
- Can be moved from task to task;
- Is paid hourly, weekly or monthly;
- Can receive overtime payments and bonuses.
Self-employed workers generally:
- Do not receive holiday or sickness pay or other 'employee-style'
benefits;
- Can hire someone else to undertake the work;
- Risk their own money;
- Provide the principal equipment needed to do their job;
- Fix a ‘per job’ price, regardless of the length of time
taken to complete the work;
- Are able to decide what work to do, and to decide how
and when said work must be undertaken;
- Regularly work for a number of different clients;
- Must correct unsatisfactory work in their own time, and
at their own expense.
Further information on the various issues relating to the
determination of self-employment, and an employment status
calculation tool are available on the HMRC website: http://www.hmrc.gov.uk/employment-status/index.htm
Directors of a limited liability company are normally treated
as employees of the company and income tax and NICs for them
must be deducted at source.
There are special rules (the Construction Industry Scheme,
or CIS) in the construction industry governing the use by
contractors of subcontractors; further details on this are
available here: http://www.hmrc.gov.uk/cis/con-reg-obs.htm
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