Tax status

Updated on 29 June 2023

Taking on an employee

When you take on someone to help you, for tax purposes you need to understand whether the law sees them as your employee or sees them as self-employed.

If they are your employee then you have important responsibilities, including deducting tax and National Insurance from their wages and paying the money over to HM Revenue & Customs (HMRC).

If they are genuinely self-employed, then you don’t need to do this. But treating someone as self-employed when they are, in fact, an employee, can have serious consequences.

Illustration of people around a laptop and a tax document

What is tax status?

Tax status means whether the individual you are taking on is employed or self-employed.

‘Status’ is also important for employment law rights, but status for employment law is not the same as for tax. You must look at the individual’s status for tax and employment law separately as they will not necessarily be the same. See our employment law section for more information about status and employment law.

Why is tax status important?

Tax status is very important because the calculation of income tax and National Insurance Contributions for those who are employed and those who are self-employed is different. If tax status is wrong, it may mean the wrong amount of tax and National Insurance contributions are being paid. Tax status also affects how you should pay your worker and whether or not you have to pay any National Insurance contributions as a consequence of having an employee.

If you make the wrong decision about someone’s tax status, it may mean that the worker is incorrectly classified for other purposes, which can lead to wide consequences for both you and your worker.

What is the difference between being employed and self-employed?

Employed status

A person who is employed operates under a contract of service (that is, they work for someone else - their employer). If the person you have taken on has employed status, you will be their employer and they will be your employee. You will most likely have a formal contract of employment with them and you will have control over what they do and when they do it. Even if there is nothing in writing, a contract of service (or employment) can be inferred from the facts.

If you are an employer, it means that by law you are required to collect tax and National Insurance from your employee's wages, if they are due, and pay this over to HM Revenue & Customs (HMRC). See our setting things up section for information on how to do this as an employer (or how to use a payroll provider to help you). You may also have to pay employer's Class 1 (secondary) National Insurance contributions.

In addition to tax and National Insurance responsibilities, you will also need to understand employment law issues for your employee.

Self-employed status

People who are self-employed are often described as working for themselves. They operate under a contract for services (for example, a business to business contract) and will often provide services to you as well as other people. Self-employed people are responsible for paying their own tax and National Insurance to HMRC. They will normally give you an invoice for their services weekly or monthly, which you then pay.

You will not have the same employment law obligations if your worker is self-employed. However, they may have some rights depending on their employment law status. See our employment law status section for more information.

Who decides tax status?

It is your responsibility to decide the tax status of the person you hire.

However, you cannot just pick an employment status because it is better for you or because the individual prefers to be employed or self-employed. In addition, it is important to note that the individual will not automatically be self-employed just because they have an existing Unique Taxpayer Reference (UTR) and submit Self Assessment tax returns each year; or because their position lacks permanency; or because they provide their own small tools, for example.

The correct status depends on the relationship you have with them and the wider circumstances of the particular person. It is a matter of fact rather than choice.

The starting point will be the nature of the contract or agreement (whether written or oral) that you have with the person you hire. However, this will not necessarily be conclusive because if the facts indicate otherwise, put simply, tax law and/or employment law can override what either you or they intended under the contract. So even if you have a contract with the individual that says they are self-employed, if the facts indicate otherwise then they could be regarded as your employee in the event of any challenge.

It is therefore important that you apply the criteria listed below when deciding tax status. In addition, HMRC can provide help to work out tax status as explained below.

How do I decide if the person I take on is employed or self-employed?

Let us start by saying that tax legislation does not tell us whether a worker is employed or self-employed. The distinction between the two is based on HMRC practice and cases decided by the courts.

The general rule from HMRC practice and court cases is that the individual will be:

Employed if they work for you and do not have the risks of running a business.
Self-employed if they run their own business on their own account and are responsible for the success or failure of that business.

In deciding whether a person is in business on his or her own account or working for someone else, a variety of factors are relevant. Some of the main ones are outlined below, however it is unlikely that one of them on their own will determine the status.

Mutuality of obligation: Where an engager (the person taking on a worker) is under an obligation to provide and pay for work and the worker is under a similar obligation to accept the work and to perform the tasks delegated to him, this usually points to the relationship being one of employment. If a worker is self-employed, they will have no guarantee of work and even if work is offered to them, they are under no legal obligation to accept the work offered.
Right of control: The fact that a worker may be told how to perform duties will usually be seen as a strong pointer to employment. On the other hand, a self-employed person will have far more control over the jobs that they undertake and the deadline for completion of those jobs.
Provision of own equipment: An employee is rarely responsible for providing his or her own equipment. A self-employed person, on the other hand, will normally be responsible for providing the necessary equipment to enable them to undertake the work offered. Note that this factor will only be relevant in helping to decide status where items of equipment are significant – the provision of small items will be ignored.
Right of substitution and engagement of helpers: An employee will have no freedom to send a substitute in his or her place if, for whatever reason, they are unable to perform their duties. Similarly, an employee will rarely be allowed to engage the services of a helper or assistant. On the other hand, if a self-employed person has contracted to do a job but is then unable to do the work (for example, they are sick or double-booked), that self-employed person will usually have the unfettered (or unrestricted) freedom to provide a substitute to complete the job in their place.
Financial risk: Individuals who risk their own money by (say) buying equipment needed for the job, bearing the running costs and paying for overheads and materials, are almost certainly self-employed. Employees are not usually expected to risk their own capital. Self-employed workers may also be required to rectify unsatisfactory work in their own time and at their own expense.
The number of paymasters: A typical employee has one paymaster – they are paid by their employer and no-one else. However, if a worker typically performs services for a number of different clients, they are more likely to be self-employed. Note that this is only one factor used to determine status – while many individuals may work for more than one business, it is perfectly possible that they are an employee of each of them (when you look at the arrangements in the round).

In most cases, it is generally straightforward to apply the criteria and decide tax employment status.

Where it is not so clear-cut, there are further resources to help you determine employment status. For example, HMRC have a factsheet on employment status, which although directed at workers, will be useful for employers too.

In particular we have reproduced the helpful employment status ‘indicators’ from it, below:

Contract of service

An individual is likely to have what is known as a 'contract of service' and so be employed by you if most of the following statements apply to them:

you can tell them what work to do, as well as how, where and when to do it
they have to do their work themselves
you can move the worker from task to task
they are contracted to work a set number of hours
they get a regular wage or salary, even if there is no work available
they have benefits such as paid leave or a pension as part of their contract
you pay them overtime pay or bonus payments
they manage anyone else who works for you

Contract for services

An individual is likely to have what is known as a 'contract for services' and so be self-employed if most of the following statements apply:

they can hire someone else to do the work you have given them, or take on helpers at their own expense
they can decide what work is done and when, where, or how it is done
you pay them an agreed fixed price – it does not depend on how long the job takes to finish
they can make a loss or a profit

Even if none of the statements in the previous list applies, your worker is still likely to be self-employed if most of the following apply to them:

they use their own money to buy business assets, pay for running costs and so on
they are responsible for putting right any unsatisfactory work, at their own expense and in their own time
they provide significant tools and equipment that are fundamental for their work

HMRC’s Employment Status manual provides much more detailed guidance about the different criteria to be taken into account in deciding the employment status of individuals.

There is no single test to determine employment status. Each case has to be looked at carefully and all of the factors above considered and weighed up (where certain factors are not relevant, they will carry less weight).

What if I have more than worker?

You must decide the employment status of each separately. Just because one worker is employed, it does not mean they all will be. You should consider the criteria above for each individual you use.

Your worker may have another job. You need to work out their status solely for the work they do for you. A person can be employed and self-employed at the same time. For example, they may be employed by you during the day but they may teach music as a self-employed person in the evening.

What if my worker is a family member?

When trying to work out if a family member is an employee, you need to apply the general principles of whether someone is engaged under a ‘contract of service’ to the facts of the situation.

If they are an employee, it is important to understand that the existence of a family relationship does not bypass any tax laws – so, for tax purposes, employing a family member is just like employing anyone else.

You should also ensure you consider the minimum wage position and any other employment law considerations.

For National Insurance contribution (NIC) purposes only, if someone is employed by a family member in a private home in which both family members (that is, the employee and the employer) live, then the employment is disregarded for NIC purposes only. This exception will not apply if the employment is being carried out for the purpose of any trade or business by the employer.

The family members that count for this purpose are:

father or mother
grandfather or grandmother
son or daughter
grandson or granddaughter
stepfather, stepmother, stepson or stepdaughter
brother or sister
half-brother or half-sister

See HMRC's guidance for information about this exception.

In terms of practicalities, if the exception applies to a specific family member, then category letter X should be applied for payroll purposes to switch the NIC off. As far as we are aware, there isn’t any evidence required as such – it is just a matter of fact as to whether they are a family member and whether they reside in the same house.

What help is available with tax status?

HMRC can help you determine the tax status of the person you take on.

They offer an online Check Employment Status for Tax tool which you may be able to use to help you. It will ask you a set of questions about your situation and at the end, it will give you an indication of the worker’s status for tax.

HMRC have developed supporting guidance for help using the tool.

⚠️ IMPORTANT NOTE: HMRC say that you should be able to rely on the tool answer as evidence of your worker’s status for tax and National Insurance contributions, provided

you answered the questions accurately based on the actual terms and conditions under which the person provides their services to you and
the tool has been completed by you or your authorised representative.

As such, you should print or save a copy of the enquiry and result screen so that if there are any questions from HMRC at a later date, you can show these as evidence that you ran a tax employment status check.

You should however, be aware, that the caveat (that its binding unless you did not answer the questions accurately) gives HMRC scope to re-categorise your worker, if they do not agree that the way something has been answered is accurate.

If you are in any doubt, another option is to contact HMRC’s Employment Status customer service team to ask for a written opinion.

REMINDER:
The tool is a general tool and does not have the granularity to address different sectors. This means there are a number of limitations with the tool, which mean you may find some of the questions difficult to understand or answer and you may not get a reliable result. Remember also that most status determinations will be clearcut without having to use the CEST tool.

Keeping records

You should keep a record of any information or guidance you use to make your decision about the tax employment status of your workers. This should include notes of any telephone calls with the customer service team. This will be helpful if HMRC ask any questions at a later date – see our section on getting things wrong for more information on compliance enquiries.

What if I get tax status wrong?

We talk about what to expect if you get your worker’s tax status wrong in our getting things wrong section.

I’m still unsure/confused – where can I find more information?

We know that tax status is an area that causes real difficulty, LITRG have developed a factsheet to explain the technical and difficult rules around tax status. Although the factsheet is aimed at disabled people who take on a carer (and so may become an employer), the content is applicable much more widely. It contains information and guidance on a number of areas, including: