Some contractors choose to operate as a limited company, even when there’s only one contractor in the company. When this happens, the limited company is known as a ‘personal service company’.
There are a number of reasons why a contractor would set up a limited company over being a sole trader. If the clients and agencies you work with only deal with limited companies, you might have no choice but to set up a personal service company. Or you might choose to set up a personal service company to be more tax-efficient and have a higher take-home pay. In any case, if you have, the most important thing you need to consider is whether the relationship with your clients falls ‘inside’ or ‘outside’ the IR35 rules.
Whether you’re a contractor yourself or you rely on their services, this article is for you. AXA explains more about personal service companies and what it means in the context of IR35.
What is a personal service company?
A personal service company (PSC) is a limited company that’s been set up by a single contractor to provide services to clients. They’re usually the only shareholder and director of the business.
A contractor with a personal service company can work in any industry, but they usually offer professional services in areas like IT, marketing or engineering.
When it comes to IR35 (the rules about contractors paying the same tax as employees), a personal service company is usually the ‘intermediary’. An intermediary makes arrangements for individual to work for a third party or pay for work done for a third party.
HRMC definition of personal service company
There’s isn’t an official HMRC definition of a personal service company.
HMRC describe a personal service company in the context of IR35 rules as being an ‘intermediary’. An intermediary is usually a contractor’s personal service company (PSC), but could also be a partnership or an individual.
Why should I set up a personal service company?
Contractors choose to set up a personal service company for many reasons. Here are the two most common explanations:
- Clients and agencies prefer it
Many contractors find that their clients and agencies prefer to work with limited companies over sole traders. This is particularly true for larger businesses and organisations. They prefer working with limited companies because hiring a sole trader might mean they’re liable to pay employment benefits like annual leave and sick pay.
So, many contractors don’t have a choice when it comes to setting up a personal service company – they need to or they won’t secure any work.
- It can be more tax-efficient
Setting up a limited company as a contractor can potentially be a more tax-efficient way to operate. Contractors usually pay themselves a combination of salary and dividend which they’ll pay income tax and NI on. Their salary can then be deducted from company profits which means they’ll pay less corporation tax. Contractors can end up with a higher take-home pay when they operate in this way, as long as they don’t fall ‘inside’ new IR35 rules.
Find out more about deciding whether to operate as a limited company vs being a sole trader here.
How do I set up a personal service company?
A personal service company is set up in the same way as a limited company.
- First, you need to decide if you want to be a private limited company (LTD) or a public limited company (PLC). (Most contractors establish themselves as an LTD.)
- Next, you need to choose a unique company name. You can check the available names on Companies House online here.
- Then, you register for corporation tax and get a ‘certificate of incorporation’ which acts as confirmation that your company legally exists.
If you’re already a sole trader, you can change to a limited company by following the normal process for setting up a limited company.
Read out full guide to starting a limited company here.
Personal service companies and IR35
HMRC introduced IR35, or ‘off-payroll working’ rules, to clamp down on contractors who work in the same way as employees but operate through personal service companies for tax purposes.
If a contractor operating through a limited company is found to be doing the same work as an employee, the IR35 rules mean they will now pay roughly the same tax as an employee. An inspector from HMRC will determine the status of a contractor by carrying out an employment test. The contractor must meet certain criteria and show the inspector there’s no employment relationship to prove they are ‘outside’ of IR35 to continue operating as a personal service company. If a contractor is found to fall ‘inside’ of IR35 rules, it could have a big impact on how they get paid, and how much tax they need to pay. If HMRC declares an employment relationship, then tax and NI will be deducted and the contractor will be liable for any missing tax.
If you’re a contractor working via a personal service company, you’ll need to make sure:
- you understand the IR35 rules
- any work you take on has been professionally reviewed in case it falls ‘inside’ IR35 rules
Whether you’re a contractor or you use their services, being clued up on what it means to operate as a personal service company and how the IR35 rules work will keep your business tax-efficient and help you establish a strategy to work as efficiently as possible.
For more help and advice on personal service companies and IR35, AXA recommend speaking to a professional financial advisor, or visiting GOV.UK for the latest information.
