The UK government has confirmed that significant changes to the Companies Act thresholds defining a "small company" will additionally apply to the off-payroll working rules, commonly known as the IR35 regime.
The changes to the Companies Act 2006, introduced by the Companies (Accounts and Reports) (Amendment and Transitional Provision) Regulations 2024, will come into force for financial years commencing on or after 6 April 2025. The practical effect for IR35 purposes is to shift the responsibility for determining employment status back to the “contractor” for existing “medium or large” companies which will find themselves reclassified as small under this change.
New thresholds for small companies
Under the new regulations, a company will be classified as "small" if it meets at least two of the following criteria:
- Annual turnover: Not more than £15m
- Balance sheet total: Not more than £7.5m
- Number of employees: No more than 50
Previously, the threshold for annual turnover and the balance sheet total were no more than £10.2m and £5.1m respectively. However, the threshold for the number of employees has not changed.
The impact of the changes for “off-payroll” labour supply chains
Companies that constitute “medium or large” businesses, and who engage contractors via an intermediary (commonly a personal service company or PSC), have a responsibility under the 2021 off-payroll working rules to determine the employment (tax) status of the individual contractor, with the result that PAYE is applied by the appropriate payer where the contractor is deemed employed. However, “small” companies are subject to the original “IR35” rules, where the responsibility for determining status and ensuring the correct employment tax is paid sits with the contractor’s intermediary. Readers may recall that the government introduced the 2021 changes for the private sector to tackle perceived widespread non-compliance in the contractor market.
The Companies Act 2006 small companies regime is a lighter touch regulatory framework providing certain exemptions and requiring less financial and non-financial reporting by companies which fall within its remit. By increasing the thresholds for “small” companies under this regime, the government estimates that around 14,000 companies will transition to small companies, thereby reducing the wider administrative burden on these companies. Of course, not all of these estimated 14,000 businesses will be using off-payroll workers, so the impact to labour supply chains is likely to be a much smaller number. Existing medium/ large client companies who will now be reclassified as a small company are likely to welcome the changes.
That said, the contractor market saw a great deal of adjustment in 2021 when the off-payroll working rules were introduced for the private sector, in some cases businesses pivoted away from PSC contractors altogether. It therefore remains to be seen whether these latest changes will result in a change in market practice. Although clients may find their administrative burden eased from this change, this will shift the responsibility of determining employment status and ensuring the correct employment tax is paid onto what is likely to be an even smaller (contractor) company.
Given that a company’s size for the purposes of the off-payroll working rules is determined by reference to its previous financial year, relevant businesses will not see the impact of the changes until at least 6 April 2026. Companies receiving contractor services should continue to ensure they comply with the relevant existing rules. Although contractors can ask for their client to confirm their size, it may be sensible to pro-actively communicate an expected size reclassification directly to contractors, so they have time to adjust.
Melanie Shone
Rebecca Sutcliffe