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Contracted out services (part 7)

Updated 15 December 2023

Read Purpose, scope and background (part 1) of these guidelines, if you have not already.

You should read these guidelines alongside existing off-payroll working guidance. They are not designed to be used in isolation, or to create an end-to-end process for organisations to comply with the rules.

Your organisation should apply the guidelines to reflect the complexity and scale of your own off-payroll working engagements. Use these guidelines to help make informed decisions, based on individual circumstances.

Give feedback on these guidelines using the survey we’ve created.

Using contracted out services

Many organisations choose to use contracted out services, sometimes known as managed services, to effectively manage certain elements of their activities. Depending on whether the service is fully contracted out, the client for the purposes of the off-payroll working rules could be either, the organisation who:

• ultimately receives and benefits from the service
• provides the services

No matter how a service is labelled, if the service includes any element of labour supply, the ultimate recipient of these services must decide whether they, or the service provider are the client.

Determining the client

Your organisation must decide who the client is, to determine each party’s responsibilities for operating the rules.

If you decide that the service is not fully contracted out, and workers involved provide their services via their own intermediary, you will have the client responsibilities set out in HMRC’s off-payroll working guidance and the rest of these guidelines.

If a fully contracted out service is provided to your organisation by another medium or large-sized business or public sector organisation, the service provider will have the client responsibilities set out in HMRC’s off-payroll working guidance and the rest of these guidelines.

If a small business outside the public sector provides a fully contracted out service to your organisation, neither party has client responsibilities. However, where a worker provides their services to the small business through their own intermediary, the worker’s own intermediary must decide their worker’s employment status for tax purposes.

Read more about off-payroll working for intermediaries and contractors providing services to small clients in the private sector.

Identifying a fully contracted out service

As part of your organisation’s off-payroll working systems and processes, you should check your contracted out services, to make sure that how the services are being provided reflects the terms of the contract.

Whether a service is fully contracted out is based upon the commercial reality of the arrangements, rather than what’s written in the contract. It will normally be obvious who the client is. If you’re not certain who the client is, you’ll need to look at the relevant contracts and the reality of the working arrangements, including the nature of the relationship between the workers, your organisation and the service provider.

Where a service has been fully contracted out, the party receiving the service will set out to the service provider what it expects to be delivered under the contract. It will have no say, or interest in either:

• who the service provider engages in delivery of the service
• how those individuals are contracted or paid

The service provider will usually have responsibility for agreeing the specification of the service, and for ensuring the quality of that service.

Your organisation needs to consider every managed service on its own merits. If you fail to do so, this could have consequences for your organisation, exposing you to liabilities under the off-payroll working rules.

There should be no uncertainty around where responsibilities lie. You should record how you have reached your conclusions, and retain records. Both you and the service provider should be clear about which party has the client responsibilities under the off-payroll working rules.

Read more guidance and examples on considering contracted out services in HMRC internal manual ESM10010.

Statements of work

A statement of work sets out the specific details of a service, and sits alongside the agreement between the provider and recipient of the service. This document is often used in contracted out services. It usually sets out the important milestones and deliverables of the service being provided. It does not constitute a contract. You should consider a statement of work alongside the main service agreement, when deciding if a service is fully contracted out.

Off-payroll workers will usually carry out assignments on a timed basis, for an agreed hourly or daily rate. If a third party like an agency is involved, the agency is only responsible for providing the labour. However, those working through a statement of work generally work to milestones that need to be reached to fulfil the contract. The service provider is responsible for overseeing the work, and for meeting the deliverables outlined in the statement of work.

HMRC is aware of schemes advertised, which claim they can evade or bypass the off-payroll working rules. They claim to do this by presenting a supply of labour as a managed service, or by providing statements of work.

The existence of a statement of work does not automatically show that an engagement is a truly contracted out service. This depends on the reality of the engagement, rather than on how a contract is labelled. Service providers vary in size, but would typically have a number of workers to help them fulfil their obligations.

You should be particularly diligent in cases where the service provider is an individual, working through their own intermediary.

Examples

These examples demonstrate what a contracted out service might (or might not) look like, rather than being a definitive guide. Even if your circumstances are similar to those used in these examples, you need to consider all the relevant facts when reaching a decision about who the client is.

Read more guidance and examples on considering contracted out services in HMRC internal manual ESM10010.

Example 1

An example of where an organisation has correctly identified a fully contracted out service.

A local council is introducing the recycling of single use plastics as part of their household refuse collection services.

While they have their own refuse collectors, they do not have the infrastructure to collect or recycle this waste. The council engage the services of a medium-sized business to supply this service. This is the service provider. The council knows it must consider the off-payroll working rules for this service.

An agreement between the council and the service provider sets out the contractual terms and standards for the work. For an annual fee, the service provider will:

• supply new bins to all residents
• collect single use plastics from each household
• take that waste back to their own recycling centre
• sort it and recycle what they can
• supply the specialist teams to collect and recycle the waste

The agreement between the council and service provider includes several service level agreements, for example:

• the bins should be emptied once a month, in line with the council’s recycling calendar
• a minimum weight of total plastics is to be recycled each year
• any workers supplied under the agreement should follow the council’s standards of behaviour
• penalty clauses, if any service level agreement or targets are missed

The service provider has to meet standards of delivery in line with the council’s specifications and service level agreements. They’re free to decide how they deliver these services in practice. For example, they can decide how many workers to assign to each vehicle and at their recycling centre.

The service provider can increase their profit by sound management of the contract. They also risk financial penalties if they do not meet the council’s standards. All workers report to, and work under the control and direction of the service provider.

The service provider is protective of its brand and imposes its own standards. These go over and above the minimum standards required by the council. For example, they require each vehicle to be cleaned daily, and workers must wear a uniform showing the name of the council and the service provider.

If the council receive a complaint about one of the service provider’s workers, this is passed across to the provider’s area manager to investigate. Under the agreement, the area manager must confirm the outcome of any investigation and any action taken as a result. The council have no authority to appeal or override this decision.

The council considers all the relevant facts and the terms of the contract. They decide this is a fully contracted out service. The council and the service provider agree that the service provider is the client, for the purposes of the off-payroll working rules. This means that the council has no responsibility under the off-payroll working rules, other than keeping records on how they reached this decision.

Example 2

An example of where an organisation has incorrectly determined that a service is fully contracted-out, and has taken effective steps to correct the mistake.

The same council contracts with the same service provider, as set out in the previous example, for a similar, related service.

The council have been impressed with the service they’ve received from the service provider. Due to high staff absences and increased demand to cover some new-build estates, they contract with the service provider to supply some of their workers for the council’s normal refuse collection routes. The contract lasts for an initial period of 3 months.

These workers have to to work alongside the council’s normal refuse teams. Council management decide which routes they will work on. They wear council uniforms and report directly to council supervisors. If someone makes a complaint about these workers, the council and service provider investigate these together. The council has the ultimate say on any outcome. The service provider remains responsible for paying the workers.

When setting up the new contract, the council failed to consider the new contract on its own merits. It mistakenly assumed that this new contract was a fully contracted-out service, because the previous contract was.

The council is happy with the workers supplied and decide to extend the service providers contract. As part of the renewal, it considers the nature of the service. It notes that, in reality, the service provider is doing little more than supplying additional workers who are added to existing teams of council employees.

It concludes that this is not a fully contracted out service. It confirms with the service provider that the council is the client for the purposes of the off-payroll working rules, for this contract.

The council asks the service provider how the workers provided under the contract are being engaged. 2 of the workers are employees of the service provider and are on the service provider’s payroll. They are treated as seconded employees, rather than off-payroll workers, and the off-payroll working rules do not apply. All the other workers are operating through their own intermediary, and so are classed as off-payroll workers.

As the client, the council needs to assess the employment status for tax of the off-payroll workers. The council determines these workers are deemed employees and should have been subject to PAYE from the start of the initial 3-month contract. It passes its status determination statements to the workers, and to the service provider as the party they have contracted with for the supply of the workers. On receipt of the status determination statement, the service provider is the deemed employer and is responsible for deducting tax and National Insurance contributions from these workers pay.

The council contacts HMRC to disclose the mistake, and they are liable for the tax and National Insurance contributions, and the Apprenticeship Levy that was not accounted for during the 3-month period.

Example 3

An example where an organisation has incorrectly treated a statement of work as a genuinely contracted-out service.

An organisation grows to medium-sized and is within scope of the off-payroll working rules for the first time. It rarely engages workers other than its own employees and is unfamiliar with the rules. It approaches an agency for IT contractors that offers, what it claims are, ‘IR35 compliant solutions’.

The agency provides 4 IT contractors, who each work through their own intermediary. They are to deliver a new website for the client under a statement of work. The agency gives assurances that the client does not need to consider the off-payroll working rules.

The statement of work sets out the scope of what the contractors need to complete, including the:

• purpose of the work (to design a new website)
• scope of the work (to be wholly responsible for the design and construction of the new website),
• location of work (from wherever is most convenient)
• period of performance (to manage their own work to ensure the website is delivered on time)
• milestones (the design, build, test, and delivery of the new website)

However, what is set out in the statement of work has little resemblance to how the engagement looks in practice. In reality the workers are required to work alongside the client’s existing staff, who are also working on the website design at their premises.

The client’s staff have a degree of control over what the contractors do and bear some management responsibilities for them, to ensure the work stays on track for delivery.

The work is done at times dictated by the client’s opening hours. The workers are paid a fixed daily rate for work done, rather than by any reference to the milestones. If the workers make any mistake, they are put right at the cost of the client, not the contractors.

If HMRC starts a compliance check, we would find that the working practices do not reflect a genuinely contracted out service. The medium-sized business would be the client. They would need to determine the status of the 4 off-payroll workers supplied by the agency. If the organisation found that these workers were deemed employees, any liability would sit with them as the client, because it had failed to assess the status of the engagement.

The next section of the guidelines is Making status determinations (part 8).