IR35: Substitution, Control and Mutuality of Obligation
When deciding whether a contract amounts to employment (a contract of service) or self-employment (a contract for services) there are three essential questions to consider:
- Is there a requirement for the worker's personal service?
- Is there a sufficient degree of control over the worker?
- Are the mutual obligations of the contract consistent with employment?
Why are these three areas so important? Because if the answer to any of these questions is ‘no’, the contract cannot be an employee, whatever other terms it may contain.
This fundamental approach was originally set out by McKenna J in an employment status dispute between Ready Mixed Concrete (South East) Ltd and the Social Security Minister back in 1968. Since he gave his judgment in the High Court, it has received widespread judicial approval and has been referred to as the ‘safest starting point’ when considering employment status.
McKenna J's ruling spelt out the following crucial components of the employment contract:
- The servant agrees that in consideration of a wage or other remuneration he will provide his own work and skill in the performance of some service for his master.
- He agrees, expressly or impliedly, that in the performance of that service he will be subject to the other's control in a sufficient degree to make that other master.
- The other provisions of the contract are consistent with its being a contract of service.
Subsequent cases have found that a lack of mutuality of obligation is inconsistent with a contract of employment and therefore falls under (iii).
So what can we derive from this? If a contract does not contain a requirement for personal service or there is insufficient control or there is a lack of mutuality of obligations the contract cannot be a contract of employment. There is no grey area, no weighing up of factors. If any part of this ‘irreducible minimum’ is missing the contract cannot be a contract of service.
In order to remove any requirement for personal service, there should be a complete (or not unreasonably restricted) right to substitute personnel, or even to assign or subcontract the services to another party altogether.
For example, if the contract enabled the company to utilise whoever it liked to perform the services, there would not be any requirement for personal service, and this would be inconsistent with an employment relationship.
However, in reality, you are unlikely to encounter an unlimited right to substitute, so it is important to be aware of the how the law views restrictions on substitution rights.
In the case of McMenamin v Diggles (1991) a barrister's clerk had the right to send a substitute providing the substitute had at least 10 years’ experience. This condition was not found to displace the right of substitution. This was affirmed in the later case of Express & Echo v Tanton (1999) where the right to send a substitute was not affected by the condition that the substitute had to be suitably qualified.
Therefore a term which read: "The company may, at its discretion, send a substitute providing that the substitute has the required skills, experience or qualifications to carry out the services" would be acceptable. If, however, the clause stated that the client had the right to reject a substitute, the client could still demand personal service by rejecting any substitute.
It is perfectly reasonable (and probably typical) in a self-employed contract for services that there be a comprehensive job specification which outlines the service that is to be provided, where the service is to be provided and the hours during which it is to be provided. For there to be a contract of employment, however, there must be a right of control over how the service is to be provided.
In the case of McManus v Griffiths (1997) a lady who supplied catering services to a golf club was found not to be an employee of the club. The courts found that although she supplied the services on their premises during the times required by the club and used the clubs equipment, the club had no control over the way in which she supplied the services and therefore she could not be an employee.
As an example, a contract which included the term: "The client shall not control, nor have any right of control as to how the company is to perform the services. The client recognises that the company offers specialist services at a high level of expertise and as such the company cannot be told how to perform the services or the manner in which they are to be performed” would contain an insufficient degree of control to be a contract of employment.
MUTUALITY OF OBLIGATION
This is an area in which the Inland Revenue has been judicially criticised, and one which commonly causes confusion.
Within any contract, there are various mutual obligations. The obligation to perform and be paid for performing would form part of any contract but the mutual obligations needed for a contract of employment to exist consist of more than this.
A lot has been written on the subject of mutuality of obligations in the context of employment but instead of getting tied up in phrases like ‘care and continuity’ and ‘trust and confidence’ it is probably safer simply to look at the definition that has come out of the major case law decisions.
In cases such as O'Kelly v Trustehouse Forte (1983) and Carmichael v National Power (1999), the question asked was: is there an obligation to offer and an obligation to accept future work. In both cases, the answer was no and therefore the courts found that there was not sufficient mutuality of obligation to form a contract of service.
Therefore, if a contract has a clause which reads: "The client is not obliged to offer ongoing contracts or work to the company nor is the company obliged to accept such contracts or work if offered" there can be no mutuality of obligation and therefore no contract of employment.
There are, of course, various other factors which may be taken into account when deciding status such as the intention of the parties and the level of financial risk undertaken, but the point to be remembered is this; if any part of the irreducible minimum is not present, then the relationship simply cannot be one of employer and employee.
Article provided by Accountax, the country's leading experts in defending self-employed status and handling IR35 investigations.