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Frequently asked questions about Personal Service Companies

Below is a list of the most common PSC questions and answers. You can use them to help you decide if a PSC is the best route you for, and if so, how to go about setting one up.

For contractors earning more than £20 per hour, using a PSC can increase your net income between on average 15 to 20 per cent compared to an Umbrella Company or PAYE at the agency or client. However, there are still a number of important factors to consider before going ahead and setting up a PSC:

1. How can I work out if I am classed as self-employed or employed?
Can I just get my client to write the contract outside of IR35?
3. Can I claim different or more expenses through a PSC?
4. What if I set up a PSC and avoid paying NIC anyway?
5. What would I have to do to setup a PSC?
6. Can I get someone to do all the setup work for me?
7. Can I get another company to manage my business affairs for me?
8. Do I need to register for VAT?
9. Will it be easy to work with my agency?
10. Will being self-employed through a PSC make it harder to get a mortgage?
11. Do I need a business bank account?
12. What pension arrangements are available to me?
13. What happens if I am sick and unable to work?
14. If I work on contracts outside of IR35, will I be entitled to holiday pay from my client?

1. How can I work out if I am classed as self-employed or employed?

Deciding whether you fall within IR35 can be complex, but HMRC guidelines can help. Broadly, by their definition, you are considered to be:

Self-employed if you are in business on your own account and bear the responsibility for the success or failure of that business.

Employed if you personally work under the control of someone and do not run the risks of having a business yourself.

You will have to consider these on every contract that you undertake. To expand on this, you may find it helpful to ask yourself the following questions:

If you can answer 'Yes' to all of the following questions, you are probably an employee.

  • Do you have to do the work yourself?
  • Can someone tell you what to do, where to carry out the work or when and how to do it?
  • Do you work a set amount of hours?
  • Can someone move you from task to task?
  • Are you paid by the hour, week, or month?
  • Can you get overtime pay or bonus payment?

If you can answer 'Yes' to all of the following questions, you would probably be classed as self-employed.

Can you hire someone to do the work for you or engage helpers at your own expense

  • Do you risk your own money?
  • Do you provide the main items of equipment you need to do your job, not just the small tools many employees provide for themselves?
  • Do you agree to do a job for a fixed price regardless of how long the job may take? ·
  • Can you decide what work to do, how and when to do the work and where to provide the services?
  • Do you regularly work for a number of different people?
  • Do you have to correct unsatisfactory work in your own time and at your own expense?

In general, contractors who fall outside the IR35 rules will often be better off operating through a PSC, whereas those inside IR35 will be better with an Umbrella Company.

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2. Can I just get my client to write the contract in such a way that it appears that I work outside of IR35?

A contract can be written to fall outside IR35 but if it doesn't accurately reflect your  real working practices it isn't worth the paper it's written on. For example, if a clause has been included in the contract that lets you send a substitute to work in your place, but in reality you don't know anyone that you could send, the clause in the contract would have no impact on your IR35 status. HMRC have the power to review your working environment and practices, so a contract with conflicting terms wouldn't even be taken into consideration in an IR35 case.

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3. If I chose to set up a PSC rather than join an umbrella company, can I claim different or more expenses?

The same tax rules apply to everyone regardless of which method of payment you use, but you will be able to claim more expenses if you are working on contracts that are outside of the IR35 legislation. If you decide to set up a PSC you can claim for the following expenses depending on if the contract is in or out of the scope of IR35 . You may also want to look at our comprehensive guide to contractor expenses.

Claimable expenses in a PSC if a contract lies within IR35

  • Your gross salary - this would need to be calculated in accordance with the IR35 regulations
  • Direct business expenses incurred during the carrying out of your contract
  • Travel expenses to and from your place or work and the client site if the contract if for less than 24 months
  • Administration expenses (limited to five per cent of the gross fees receivable).

Claimable expenses in a PSC if a contract lies outside IR35

  • Your gross salary - this would usually be kept low, in order to maximise dividends payable to yourself as shareholder (thereby avoiding employees and employers NICs).
  • Spouse's salary - which must be actually paid and not unrealistic, having regard to the duties performed.
  • Any magazine, subscriptions, courses or books that are relevant to your contract work.
  • Bank interest and charges on the company bank account.
  • Business telephone calls.
  • Travel expenses.
  • Accommodation and subsistence.
  • Payments to a HRMC approved pension scheme.
  • Insurance related to the business (professional indemnity, contents etc.).
  • Computer costs.
  • Accountancy costs.

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4. What if I set up a PSC and avoid paying NIC anyway?

If it is ruled that you have been falsely operating outside of IR35, you would be forced to pay back all previously underpaid tax, as well as a penalty of similar value and the interest for the time you have held onto the additional funds.

The investigation window is five years and HMRC can look into your accounts at any point within this timeframe. The best advice is: only operate outside IR35 if you are absolutely certain of your IR35 status.

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5. What would I have to do to setup a PSC?

Essentially you will need to set up and run your own limited company. Tasks involved with setting up your own company include:

  • Appoint a Director.
  • Appoint a Secretary.
  • Allocate your authorised shares.
  • Choose an accounting reference date.
  • Open a business bank account.
  • Register for VAT.
  • Register for PAYE.
  • Register for Corporation Tax.
  • Buy or set-up an accounting system.
  • Establish your IR35 status.
  • Decide your mix of remuneration (salary Vs dividends).

Ongoing tasks

Once you've set up your company and have started your contract, you need to ensure that you keep on top of the ongoing administration duties:

  • Registering your company at Companies House.
  • Filing annual accounts at Companies House.
  • Completing an Annual Return each year to Companies House, which requires an annual fee.
  • Notifying HMRC if your company has any profits or taxable income in an accounting year.
  • Completing an annual Corporation Tax return and paying the relevant taxes within a set time.

Complete the following documents and return to Companies House (see here for a list of up to date prices from Companies House):

  • Memorandum of Association.
  • Articles of Association.
  • Form 10 - Provides Directors' and Company Secretary's Names & Addresses, together with the Registered Company Address.
  • Form 12 - States that the Company complies with the terms of the Companies Act.

There are several things that may be helpful to also consider before deciding whether to set up your own company:

What is your attitude to administration?

Dealing with the forms, returns, correspondence, accounts, spreadsheets, VAT returns etc. that form a part of running a limited company will take up extra time each month. If keeping up to date with admin is likely to be a problem or just not your thing, then the umbrella option might be better for you.

IR35 status

If your contract is caught by IR35, the decision between the two solutions will not materially affect your net pay.

Do you want the perceived status of being a company owner?

If you believe that it important to be a company director for presentation to third parties, then a PSC could be the best option.

How long do you think that you'll be a contractor?

If you are just seeing what life as a contractor is like, or think that you will only be a contractor for a short time before going back to being an employee, then it will be much easier to work via an Umbrella Company.

Still in two minds?

If after reading this you are unsure whether to choose a PSC or an Umbrella Company , then it would probably be best to go with the Umbrella Company solution for at least the short term. It is very simple to leave an Umbrella Company and start up your own limited company, but very much harder in terms of admin and expense to go from your own company to an umbrella.

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6. Can I get someone to do all the setup work for me?

Some companies and accountants will do the paperwork and other tasks such as setting up a bank account for you. Many of the companies advertising umbrella services on freelancesupermarket.com also offer this type of service. They may take care of non-core aspects of your business, but you may need to be wary of current government focus on Managed Service Companies (MSCs).

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7. I don't really want the hassle of running my own business, can I just get another company to manage my day to day business affairs for me?

Some companies will offer to operate companies on behalf of the contractor. These MSCs differ to a PSC in that there is normally a scheme provider that operates all the business affairs, rather than the contractor doing it himself.

One of the most common forms are Composite Companies where typically up to 20 contractors become non director shareholders and the company is managed by the scheme provider. The contractors are then paid a low salary plus dividends in addition to claiming various allowable expenses. This method of payment provides many financial benefits, since it avoids large amounts of NICs and Income Tax that would otherwise be payable if the contractor was paid entirely by salary.

The rules however for avoiding tax in these companies are exactly the same as for other contractors - to use a composite scheme you must be outside of the IR35 legislation .

The government has taken action to tackle MSCs which are attempting to disguise workers who fall within IR35 legislation in order to avoid paying the correct level of tax and NIC.

It is the responsibility of the MSC to correctly operate PAYE and deduct the necessary tax and NICs on the income. In the past, when these companies have been caught they simply liquidated, as they had no assets, and started up as another company the next day. In order to stop this, the recovery of underpaid taxes and NICs is now possible from appropriate third parties, principally those behind the company operating such schemes including directors, shadow directors and connected or controlling parties.

Put simply - the easiest way to avoid falling foul of the law if you decide to work via your own limited company is to run it yourself, rather than delegate control and key decisions to a third party supplier.

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8. Do I need to register for VAT?

There's no legal requirement to register for VAT until the business turnover exceeds the registration threshold, currently £67,000. This figure applies on a pro rata basis, so if your turnover in a three month period exceeds £16,750 and is likely to continue to do so, then registration is required immediately. Even if you are below the registration threshold it is possible to register for VAT voluntarily. Companies opt to do this if they wish to reclaim the VAT incurred on purchases and expenses (thus making them cheaper). Of course, you will incur extra paperwork by doing this.

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9. Will it be easy to work with my agency?

You may find that some agencies will only pay you through an umbrella service. This is because if your limited company was to illegally avoid paying taxes the agency could be liable to pay them under 'debt transfer' rules.

Technically, as long as they didn't advise you to operate a business in a certain way when you joined the agency they shouldn't be targeted under the ruling, meaning that if you already operate as a limited company when you register with them they should be safe from being fined.  But this is a very complicated area and many agencies will still request that you fill out forms to prove that you operate legally.  Also, if you are new to contracting and want to set up your own limited company you may find it very difficult initially to join agencies, meaning that you may need to join an Umbrella Company anyway.

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10. Will being self-employed through a PSC make it harder to get a mortgage?

If you're self employed and you want a mortgage, the lender would seek proof of your income. You would need to show three years audited accounts though some lenders will accept only two years.

If you haven't been in business for long enough the lender should accept a letter of confirmation from an accountant, but without having three years of accounts to show you may have to be prepared to pay a larger deposit and a higher interest rate on any loan you take out.

freelancesupermarket.com has negotiated discounted rates with a number of contractor-specialist Independent Financial Advisors (IFAs). All of our preferred IFAs are fully qualified with many years experience working with freelance contractors, so will be familiar with your circumstances, making it easier to arrange a mortgage that suits you. Visit the financial services page to find out more.

For more information on mortgages, please visit our financial services pages.

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11. Do I need a business bank account?

You need to ensure that business funds are completely separated from personal finances. A business account is needed to receive contract income, pay taxes, pay salaries and make company purchases and therefore is absolutely essential.

When you open a limited company bank account you need to go to a meeting with a bank representative and take documents to prove the company exists and that you are who you say you are. Original documents must be taken and you will usually require your limited company certificate of incorporation, previous personal bank statements and a passport or driving licence.

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12. What pension arrangements are available to me?

Pensions offer one of the best forms of investment to a contractor running a limited company due to their tax-efficient nature. Payments to a pension fund are made before Income Tax and NICs are applied. You can also make payments directly from your business bank account.

Finding the pension that is right for you is likely to be complex, and you may find that you need specialist advice to find a pension scheme that suits you being a contractor, so for more information visit our
financial services page.

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13. What happens if I am sick and unable to work?

You are not entitled to statutory sick pay if you are self-employed, but you may be entitled to Incapacity Benefit. If you chose to work via an Umbrella Company then you can claim Statutory Sick Pay.

It is possible to arrange cover that will pay out if you have an accident or are sick. For more information and to access specialist providers, visit our financial services pages.

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14. If I set up a PSC and work on contracts outside of IR35, will I be entitled to holiday pay from my client?

No, you will have to make your own arrangements around contracts.

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