Contracting in the UK is not new — in fact, there are more than four million independent contractors in the UK! However, becoming an independent contractor is not as easy as it seems; there are processes involved and many compliance elements to consider. First and foremost, independent contractors in the UK need to set up a legal business entity before engaging with companies.
On the employer side, employers must figure out how to pay a contract employee and what needs to be in a compliant independent contractor agreement in the UK before hiring independent contractors
Being an Independent Contractor in the United Kingdom
The United Kingdom sorts and classifies workers into two main groups: workers and independent contractors. Workers can be full-time employees, part-time employees, short-term workers, agency workers, and more. Anyone who is considered a worker is entitled to paid holidays, a minimum hourly wage, protections against unlawful termination, paid leave, enrollment into a workplace pension plan, and rest days.
On the other side of things, and outside of that worker umbrella, are independent contractors. According to the UK government, contractors are officially defined as self-employed workers who provide paid services to another party. Generally, contractors provide their clients with specialized skills on an as-needed, project-by-project basis.
Independent contractors in the UK operate under the following principles:
- Autonomy and control: When contracting in the UK, there is a higher degree of autonomy for when the work is completed. Contractors are responsible for managing their schedules, working methods, supplying their technology, and in some cases, often have the choice of which projects to work on.
- Business entity: Where employees are fully employed by a parent company, independent contractors are self-employed. They operate as a business entity, with the most common structure being a sole trader.
- Contracts: Independent contractors in the UK do not have a permanent employment contract with their clients. Independent contractors work on a project-by-project basis under a contract for services. This can also be classified as a consultancy agreement or independent contractor agreement in the UK.
- Compensation: Clients pay contractors when they submit invoices to the client. They charge an agreed, fixed price for their work; this can either be hourly, per word, or project.
Local employment laws in the United Kingdom, such as termination protections, do not apply to independent contractors. This is primarily because contractors are their own bosses — after all, they are self-employed.
Contracting in the UK
A person is considered self-employed if they run their business for themselves and take complete responsibility, regardless of its success or failure.
Self-employed workers are not paid through the Pay As You Earn (PAYE) scheme. Just as Canadian workers must inform the Canada Revenue Agency (CRA) if they are self-employed, independent workers in the UK must tell Her Majesty’s Revenue and Customs (HMRC) if they have become self-employed.
If a person is self-employed, they have health and safety protections, and protection against discrimination, and are entitled to the rights set out in the independent contractor agreement in the UK.
Someone can be self-employed and employed at the same time. This is common for those who work for an employer during standard work hours and run their own business providing services in the evenings.
Misclassification
When opting to hire an independent contractor in the United Kingdom, one of the most important things to be aware of is classification and the risk of misclassification.
Misclassification is when a business classifies a worker as an independent contractor but treats them as if they were an employee.
Organizations may accidentally misclassify an employee as a self-employed independent contractor. Or, in some cases, it's anything but a mishap — and managers might do it purposefully as a method for avoiding taxes and the additional expenses related to recruiting a full-time employee.
Generally, hiring and paying independent contractors is simpler and less expensive than hiring a full-time employee. With self-employed workers in the UK, organizations don't have to pay a set compensation, issue benefits, enroll them in the UK’s pension scheme, withhold tax, or provide office space or equipment.
If a contractor’s and employer’s relationship changes over time, it may be best to convert the contractor to a full-time employee. This could help avoid the murky waters surrounding misclassification.
Penalties of Misclassification
When setting up as an independent contractor in the UK, it is imperative to be correctly classified to avoid penalties and fines. The company that misclassifies may be required to pay back taxes, fines, penalties, and benefits — both to the employee and the government.
Independent contractors may also end up owing money to the government when misclassification occurs. Due to this, the employer may find it challenging to hire highly-after freelancers in the future.
IR35: What is it?
The UK introduced IR35 in 2000, a piece of legislation that changes a tax loophole and redefines relationships between independent contractors and employers. Overall, IR35 was implemented to tackle tax avoidance from the following groups:
- Businesses that are designating their workers as employees
- Contractors that are designating themselves as employees
- Businesses that list workers as self-employed to disguise their actual employment status
- UK businesses who engage with domestic independent contractors
- UK businesses who engage with international independent contractors
IR35 legislation separates workers into two groups: outside IR35 and inside IR35.
Outside IR35
Outside IR35 means that independent contractors in the UK are correctly classified. So, contractors deemed outside IR35 are considered self-employed. This can include working in a limited company or as a sole trader.
Inside IR35
Contractors who are considered employees by IR35 are inside IR35. As a result, they must pay taxes at the same rate as other employees in the same tax bracket. Additionally, companies that work with contractors who fall inside IR35 must also pay taxes as if the contractor were an employee. The employer is then required to deduct income tax and National Insurance Contributions (NICs) on behalf of the independent contractor.
With the wealth of highly skilled independent contractors in the UK, employers should not let IR35 rules scare them away. These new regulations are intended to close a tax loophole, not make doing business in the country more difficult.
Business Registration in the UK and Setting Up as a Contractor
Before people start the process of contracting in the UK, one registers a business entity. To be an independent contractor, workers must set up a legal model for their business. Popular business structures in the UK for independent contractors include:
- Sole trader: A sole trader business model is a simple structure that is used most among independent contractors. With this type of model, contractors have full control of their business. However, there is no legal separation between the business and the individual.
- Partnership: Similarly to the sole trader business model, there is no separation between the person and the business — the contractor is fully responsible for any debts and liabilities.
- Limited Liability Company (LTD): This is a formal entity that separates the business from the entity. All income and losses are liable to the company as opposed to the independent contractor. With a Limited Liability Company, the organization must have at least one shareholder and one director.
There are positives and negatives to each structure, but most independent contractors go with the sole trader business structure. For independent contractors that get started with the sole trader model, they must complete a self-assessment and register.
Once registered, they will receive a Unique Taxpayer Reference number within seven to ten business days. Additionally, contractors will need to obtain specific licenses and permits before they can start actively engaging with clients.
Independent Contractors and Taxes
Contractor payments to independent contractors in the UK are only made after they submit an invoice. Because of this, contractors are not subject to the same payroll laws as employees. There are no mandatory deductions the employer has to take care of. Rather, they are responsible for paying their taxes and National Insurance contributions (NICs).
This means that contractors in the United Kingdom must keep accurate records of their earnings and must submit a self-assessment tax return to HMRC every year.
The UK is home to specific tax laws, which the independent contractor must fulfill. Managing these tax obligations is imperative to maintain compliance with HMRC.
Income Tax
Independent contractors in the UK are fully responsible for paying income tax on their earnings. To do so, they must register for self-assessment with HMRC and submit an annual tax return. Income tax is calculated based on the independent contractor’s profits.
National Insurance Contributions (NICs)
Independent contractors must contribute to National Insurance in the United Kingdom. This goes towards their benefits, such as maternity leave, healthcare, or pension. The contribution amount is also based on the profit. Contractors who make under GBP 11,908 are not required to contribute to National Insurance.
Record Keeping
Independent contractors should maintain records of income, expenses, receipts, and invoices. Keeping detailed and accurate financial records is essential for tax compliance in the United Kingdom. Sole traders in the UK must keep business records and records of expenses. Contractors will specifically need to keep the following records for at least five years:
- Income and sales
- Business expenses
- Value-added tax (VAT) charged, if applicable
- Personal income
- Business grants received
Business Expenses
While independent contractors in the UK are required to pay their taxes and keep comprehensive records, they can also claim deductions for multiple business expenses. This includes the following:
- Office costs
- Travel costs
- Advertising and marketing
- Training
- Tools and equipment
Sole traders in the United Kingdom may also be eligible for a tax-free allowance of GBP 1,000.
How Independent Contractors Get Paid
If independent contractors aren’t on a company’s payroll, many employers ask: how to pay a contract employee? Well, for the most part, this is up to the independent contractor. Deciding how to get paid is a key part of the process of setting up as an independent contractor in the UK.
There are four primary ways to receive payment as an independent contractor:
- An international money order
- An international bank transfer
- Using online money transfer companies
- Working with a contractor payment platform.
International Money Order
An international money order is a secure way to pay independent contractors in the United Kingdom. It’s challenging for anyone but the payee to cash a money order, and, in the instance that the payee loses it, the purchasing place can quickly do a refund.
An international money order can be done by simply purchasing the required amount and sending it in the mail.
However, sometimes, payments may be delayed due to delivery issues. Both the contractor and employer must have secure locations nearby to process the payment, as well — if no place is nearby, then this may not be the right payment method.
International Bank Transfer
International bank transfers, also referred to as wire transfers, are a secure and traditional way to pay your independent contractor. This payment method transfers money via the Society for Worldwide Interbank Financial Telecommunication (SWIFT) network.
However, they may take about five days and cost both the contractor and employer hefty fees.
Online Money Transfer Companies
Online money transfer services, like Paypal, Wise, or Revolut, make it easy to transfer money between user accounts, regardless of location. These service options come with low currency conversion rates and smaller fees.
However, it’s important to note that some companies may charge a commission for holding certain currencies above a certain limit. And, these service solutions are usually not available in all countries.
Before you choose this payment method, make sure the company of your choice is available in the United Kingdom.
Contractor Payment Platform
A contractor payment platform, like Borderless, simplifies the entire process of paying independent contractors in the United Kingdom. It’s a cloud-based, centralized and secure platform that pays your independent contractors in their currency with just a few clicks.
Borderless’ global payroll platform makes it easy to track invoices, the contractor agreements, and check on the payment status. When you’re unsure of how to pay independent contractors in the United Kingdom, see what Borderless can do for you.
Employer Considerations and Complexities
When companies engage with independent contractors, there are some things to keep in mind. Of course, employers need to be aware of misclassification to avoid financial and legal fines.
Additionally, while not compliant, employers and contractors should be mindful of time zones, communication methods, and cultural differences.
Keep Time Zones in Mind
When independent contractors in the United Kingdom work with clients abroad, it’s important to be aware of the potential time differences. Meeting times and deadlines should be considerate of everyone involved.
Also, messages and emails that are sent during your regular working hours may not be within your contractor’s regular working hours. Ultimately, respecting each other’s time zone will lead to better relationships and communication.
Prioritize Communication
Communication among remote independent contractors and their clients needs to be prioritized and can require different practices or tools. For one, remote communication needs to prioritize flexibility, real-time communication, and the ever-important asynchronous communication for widely distributed teams.
In Buffer’s 2022 State of Remote Work Survey, 56% of employees who went from on-site work to remote work say that the way they communicate and connect with colleagues has shifted dramatically.
Remote communication can be done effectively with communication tools, such as Slack or Teams.
What About Benefits?
Independent contractors are not entitled to benefits, so employers do not need to worry about that. Since independent contractors are not on a company’s payroll and there are no deductions on their invoices, employers are not required to provide them with benefits like private healthcare coverage, pension plan contributions, or paid vacation. If independent contractors wish to have private healthcare coverage or other specialized benefits packages, they must enroll themselves.
How Borderless Makes it Easy
When setting up as an independent contractor in the UK, it may seem overwhelming. Fortunately, Borderless can help — for both employers and contractors alike. Borderless helps employers who engage with an independent contractor to hire, create an independent contractor agreement in the UK, and act as a third-party payroll service to pay a contract employee in a safe and timely manner.
Working with Borderless guarantees correct classification, total compliance with local labor laws, invoicing automation, and tax management.
Be an independent contractor in the United Kingdom with efficient processes. Speak with us today.
Disclaimer: Borderless does not provide legal services or legal advice to anyone. This includes customers, contractors, employees, partners, and the general public. We are not lawyers or paralegals. Please read our full disclaimer here.
