Contents
Background
How Worried Should You Be?
Tax On Hiring Self Employed Workers
How HMRC Decide On The Employment Status
Summary
Background
With the upcoming changes to Employers National Insurance in 2025 and the Employee Rights Bill, small businesses are more nervous than they’ve ever been about taking on new staff due to the significant increases in costs and risk. It is easy to understand how the idea of hiring self employed workers and freelancers is more appealing than ever compared to having more permanent employees.
The savings when it comes to taxes and other employment costs are significant, for example by not having to pay employers national insurance contributions or provide holiday/sick pay, or deal with autoenrollment on a pension scheme. There are also the added benefits of having more flexibility in their working conditions and contract.
You’re probably reading this article as you’re worried about the risks involved in hiring self-employed workers, and there are certainly many accountants advising small businesses based on their most conservative approach, which can leave business owners worried and anxious about where they stand, especially when your entire business model is based around hiring self-employed workers.
To ensure you don’t leave any tax savings on the table you should also read my article on How to Get Money out of a Limited Company and also my Ultimate Guide to Tax Deductible Expenses.
Can you hire self employed people?
The answer is yes, but before we go into the conditions that need to be met for it to be considered genuine, it would be good to consider the different types of self-employment.
There is in fact no limit to the amount you can pay someone before you have to put them on your payroll in the UK, although as discussed later in the article the risk does increase the more they earn.
Self-employed workers typically don’t have a tax code either, but there are some exceptions in the case of Off-payroll working where they need to be added to payroll returns for legislative reasons.
Freelancer or Self-employed
Self-employed workers are essentially sole trader businesses and they declare their income by submitting a self-assessment tax return every year. From the workers point of view this is nice and easy, but they need to be careful and ensure they save for their tax bills.
In this scenario your contract is directly with the individual and typically they would invoice you and you would then pay the invoice into their business bank or personal account.
The major risk in this arrangement is that the worker can claim to be employed and that you didn’t provide them with the benefits they were entitled to. In the first instance where they are deemed by HMRC to be an employee, you can initially be liable for any lost taxes although they may pursue the worker afterwards.
It is also worth considering the type of insurance you need and the risk assessment required as there are many instances where you would have a certain degree of liability for the work they do and also for their safety and welfare.
Contractor Through Company
Some workers actually provide their services via their own limited company, which is known as a personal service company (PSC). This means that your contract is not with an individual, but with a corporate entity and you pay into the company’s bank account.
Whilst this way of working can be more expensive for the worker as they then have the associated accounting fees and complexity of getting money out of their company. From a small business hirers point of view, it is a dream because they then can’t be held responsible in the event HMRC claim disguised employment.
The responsibility for paying the correct taxes and providing the right benefits is between the PSC and the worker, so as a hirer you then benefit from an enhanced level of protection.
Special Treatment
One other thing to consider is that even if they are self-employed, do you work in an industry where you need to put them through a payroll system and deduct National Insurance?
This is not an obvious consideration but does apply to certain businesses like commercial cleaners and many business owners actually fail to apply it properly.
Construction Industry Scheme (CIS)
If you have a trades related business then you should be aware that the Construction Industry Scheme criteria might apply and you will need to deduct tax from your subcontractors before you pay them and hand it over to HMRC under the CIS.
For many subbies the tax deducted from their invoices is usually higher than their actual bill after working it out and this is why they get rebates every year.
Commercial Cleaning
For certain industries like cleaning it is also necessary for self-employed workers to have national insurance deducted and paid to HMRC if they are mainly working on commercial premises. This can form an unusual requirement where you then have to put them through your payroll, whilst they are still submitting their own tax returns as well.
The current rules
Typically it is an employers responsibility to collect the right amounts for tax purposes under the PAYE scheme rules and this means that in the event a self-employed person who is deemed to be a disguised employee had underpaid tax, the deemed employer (you) would be initially responsible for covering it.
This creates an interesting contrast between businesses hiring sole-traders and hiring people who were working through their own personal service company (PSC).
It has always been the preference of small businesses to hire people who would work through their own limited company as it would protect the hirer in the event of disguised employment status tax enquires.
Ultimately the self employed persons own personal service company is their employer and the responsibility for underpaid tax can’t shift away from that, unless the IR35 exemption for small businesses doesn’t apply.
IR 35
HMRC were so frustrated with the tax they’ve lost historically to self employed people that they created a piece of legislation called IR35, which allowed them to determine whether on not someone was a disguised employee and then apply the lost employee taxes and penalties to that person or the company they worked for.
Even in cases where the person was working through their own limited company, HMRC could transfer the responsibility for the lost tax to the director of the company and negate the protection the limited company usually provides.
There has been a lot of discussion in the news over the last few years about the changes to the IR35 rules which mean that the business hiring the self employed worker is responsible for the lost tax and penalties and not the self-employed worker themselves.
If you’re a small business reading this then you should be relieved that there was actually an exemption for small businesses with a turnover of less than £10M, balance sheet worth less than £5.1M or with less than 50 employees (2 out of the 3) in the legislation.
How worried should you be?
While it depends on the exact circumstances, for most honest people running small businesses the answer is probably not as much as they think. Firstly you have to consider if there is an actual risk from a tax perspective.
Ultimately HMRC make their money by launching enquiries in order to reclaim tax and potentially add penalties and interest on top of that so they will not want to waste their time if there is no financial gain.
Would there have been tax due?
A good question to ask your accountant is “If this freelancer was an employee, would there actually be any tax due on the amount I’m paying them?”
If you’re actually not paying them enough to trigger any tax bills, perhaps because everything they earn is covered by their personal allowance or below the primary or secondary NIC thresholds, then the chances are that there is very little risk to your business.
Now with the changes in the employment allowance and thresholds for employers national insurance in April 2025, the potential losses to HMRC could have increased. But even then the increase in the employment allowance will reduce the impact of that.
What happens if you and HMRC disagree?
Typically in the past HMRC has lost 4 out of 5 cases in tax tribunals where they challenge someone’s employment status, as the criteria which I’ll outline further down in this article are incredibly subjective and it can be very difficult for them to prove.
There is an argument in the accounting community that because of HMRC’s unsuccessful record in enforcing disguised employment related cases, they have alternated to creating an intimidating environment for small businesses hiring self-employed workers, to deter it that way instead.
HMRC have developed a useful tool in checking the employment status of a worker, however when using it you should consider that HMRC’s position is very cautious in their favour and that nothing when it comes to employment status is black and white.
The biggest challenge with any kind of tribunal action is that you do not have an automatic entitlement to claim costs. This means that even if you win you could end up spending more money defending the claim, then the cost of the taxes and penalties being requested.
Other issues to consider
Whilst this article is primarily focused on tax, it would be fair to point out that HMRC isn’t the only entity that might challenge a self-employed worker type of arrangment.
The news is full of cases where workers have taken on their employers in courts claiming to have been exploited into giving up their employment rights. Uber is a prime example of this it resulted in the Supreme Court ruling in favour of the workers.
The ultimate lesson from this case was that the level of control Uber had over it’s drivers was enough to class it as self-employment. This article does contain further information regarding the criteria HMRC and the employment tribunals use to determine the status of a worker.
It is worth noting in general that the employment tribunals are stricter in their evaluation then typically HMRC would be, which means that care has to be taken to ensure that not only are the contracts compliant, but also that the working practices match the contracts.
Tax on hiring self employed workers
Understanding the tax that your self-employed workers would usually pay is an important part of understanding the risk to your business.
Whilst technically the only element you are liable for is employers national insurance, HMRC do have the right to approach you in the first instance for any income tax and employees national insurance they have missed out on.
Do Self-employed people still pay income tax?
This question really depends on whether or not the self-employed person is working as a contractor through their own limited company or if they are doing it as a sole trader.
Sole traders pay tax at 20% and sometimes at 40% and even 45% depending on their self-employed income. Depending on if they are in the basic, higher or additional rates respectively, this is also true of employees in any tax year.
What national insurance contributions do self-employed people pay?
Typically people working as a sole-trader will pay class 2 national insurance at £3.45 per week and also class 4 national insurance contributions at 6% (2025-26 tax year). Just like with income tax there are still allowances and thresholds available, which mean that they don’t have to pay tax on all of their income.
What taxes do limited companies pay?
Self-employed contractors working through their own limited companies have different tax obligations. Typically they will receive a salary from their company which in most cases will be tax free, although there might be a small amount of secondary national insurance contributions to pay.
Overall limited company owners benefit from tax savings compared to their unincorporated counterparts as the corporation tax rate they pay is around 19%, although this can be higher depending on their profits. Dividend tax for comparison at the basic rate is also around 7% (8.75% official) so overall 26% can be paid.
Regardless of how the worker status is achieved, self-employed people must file an annual self-assessment tax return if they have some of the taxes mentioned above to declare as part of their tax position.
How HMRC will decide on the employment status of a self-employed worker?
There are certain criteria HMRC use when making an argument for disguised employment status:
Is there direction, supervision and control? – Essentially this looks at the working relationship between the hirer and the self-employed person. Are they free to use their initiative, experience and qualification to achieve the result they are hired to do, or will they need to be micromanaged?
Do they work for other businesses alongside the hirers business? – Or will they solely work for you?
What is the length of the contract? – Typically one that renews month by month with a notice period is a clear sign of employment. How about a fixed term instead?
Do they have the right to substitute themselves if they wish to and send a replacement? – Insisting that they are the only person that can carry out the work is a clear sign of employment unless there is a good commercial reason.
Lack of contract – Often in circumstances where a self employed contract doesn’t exist the default position can be that the worker is an employee.
From reading these criteria it can be assumed that the true status of an employee is very subjective and whether HMRC make a successful case is purely based on the quality of the argument they make and the evidence they hold which can be very hard for them to obtain.
Cost of Converting Your Self-Employed Workers Into Employees
Converting your self-employed workers can be expensive as overall payroll costs of your company will increase due to:
- Employers National Insurance
- Holiday or Sick Pay
- Additional costs for dealing with PAYE and employment law
- Autoenrollment Pensions
- Costs of statutory paternity and maternity leave
Switching self-employed staff over to being permanent employees can be an expensive process as people rarely want to take a pay cut, even if it comes with additional employee benefits like the ones mentioned above. It’s worth considering that just the act of converting them can cause you issues as HMRC can argue that because you can make the conversion, that they were in fact disguised employee all along.
What is an Intermediary?
Sometimes it is possible to hire workers through another company or provider and in that instance providing that the small business exemption for IR35 applies, you can do it without any risk of an enquiry as you’re not the deemed employer.
Other risks in hiring self-employed people
If the Uber Self-employed court case has taught us anything is that employment law rights can be very complicated and especially when it comes to working out if national minimum wage amounts were complied with. Tax and national insurance on self-employment income isn’t the only thing you should be worried about and genuine thought needs to be given to the reasons for creating the arrangement and they should be focussed on commercial flexibility rather that saving money.
Summary
Overall the risk of hiring self employed people in your business is often not as bad as it seems and there is a lot of hype about the consequences of getting it wrong. Your best option is to talk to good accountants and get their advice on the matter, we’re based in Northampton if you’d like to meet us and we can also hold online meetings as well if you live further away. Why not get in touch today and book your free consultation.
Ultimately self-employment status should never be used as a reason to pay workers less or prevent them from achieving a national living wage. While things can look right in tax law, it is still vital to ensure that you are incentivising your team regardless of whether they are a separate legal entity or part of your business.
