29.01.20 Tax Calculations – Limited Company v PAYE/Staff

IR35 Tax Calculations for limited company v PAYE

As the IR35 reform approaches, some companies are announcing that they will not be engaging Contractors. Instead they intend to only use them if they are hired through agencies under PAYE – basically taxed as staff, but without the benefits of staff. This effectively allows them to hire and fire in much the same way as a Contractor but without any real employment rights or benefits. We have put together tax calculations (below) to illustrate the impact on contractors of operating as a limited company v PAYE.

This reaction by the companies that use Contractors could be seen as over the top, especially as the legislation has not changed the requirements for being inside / outside of IR35. The only change has been a shift in the responsibility to the end user, to assess whether the Contractor is inside or outside IR35 and to ensure the Contractor is paying the relevant tax.  A recently published Treasury statement confirms this by saying, “The reform does not introduce a new tax or apply to the self-employed, who are outside the scope of the existing rules”

What companies are doing, instead of taking Contractors on as staff, is making them PAYE through Agencies. This means the Contractors get taxed the same as staff, but receive none of the perks of being hired directly. This also means that the company keeps the flexibility of hiring and firing them while paying them just the day rate. There is a difference between PAYE versus Staff! For a Contractor to become PAYE and keep the same bottom line, their rate would have to significantly increase – between 30 and 40%.

Tax Calculations

Below are some examples of the take-home income effects that a Contractor could expect in the light of the forthcoming changes. There are obviously some assumptions made in the following tax calculations, but these have been applied consistently across all the income levels.

  • The first two columns show the current annual earnings and day rate via the Limited Company as a Contractor.
  • The third & forth columns show the net take home achievable, assuming all the income is drawn from the company.
  • The fifth and six columns show what the take home would be if the same top line as the Limited Company was used to pay salary under PAYE.
  • The seventh column shows the cost to the end client to give the same take home salary under PAYE as the net take home from a limited company.
  • The last column shows the uplift in day rate required to ensure the Contractor take home is the same under PAYE v Limited Company

Take-home income effects:

Annual Fee Income £ Day Rate (230 days) Ltd take home £ Ltd take home %   Net Salary Equivalent Amount less than Ltd %   Salary Needed (incl Er’s NIC)  to equal Ltd Additional cost to end client %
                   
£60,000 £261 £47,419 79.03%   £37,481 -20.96%   £79,841 32.95%
£80,000 £348 £62,404 78.01%   £47,498 -23.89%   £109,759 37.07%
£100,000 £435 £77,389 77.39%   £57,516 -25.68%   £149,909 49.89%
£120,000 £522 £91,747 76.46%   £66,202 -27.84%   £168,343 40.23%
£140,000 £609 £104,520 74.66%   £72,617 -30.52%   £207,400 48.11%
£160,000 £696 £115,456 72.16%   £82,443 -28.59%   £231,331 44.54%
£180,000 £783 £126,390 70.22%   £92,000 -27.21%   £255,260 41.76%

 

The above tax calculations show Contractor versus PAYE – and speak for themselves!

We have even heard of companies reducing your day rate to compensate for holiday pay, sick leave and Auto-enrollment, leaving you with even less in your pocket than the above calculations.

Thankfully this is not the internal policy change of all Companies – many are ensuring that their Contractors are safely outside IR35.

We also published a blog post about the IR35 reform that outlines the precise changes that Contractors can expect and how they can prepare. If you have any questions please feel free to contact us.