Understanding insolvency and liability for Personal Service Companies

Small companies for personal services, known as PSCs, are typically set up with a single director who works as a contractor. Operating your own limited company as a contractor in the UK has several advantages. 

One major benefit is the option to receive a significant part of your earnings as dividends, rather than a salary through the PAYE system.

Clients also gain an advantage as they are not obligated to make employers’ National Insurance contributions. It’s crucial to bear in mind the IR35 legislation when managing a personal service company.


What is IR35?

IR35 aims to curb tax avoidance by directors of personal service companies. This legislation, introduced in 2000, has undergone recent revisions in April of this year, making it a complex but important aspect to understand.

If HMRC considers a contractor to fall under IR35, after they’ve been benefiting from limited company rules for tax payments, it can lead to significant financial challenges. Tax investigators have the authority to review contracts from several years ago, creating potential financial difficulties.


Personal service company insolvency

Managing a PSC, your employment status significantly influences financial stability. To be considered self-employed instead of an employee of your client, it’s crucial to be deemed ‘outside IR35’.

Issues arise if HMRC raises concerns about your employment status. This may lead to a tax investigation, and they could retroactively claim a significant sum they consider unpaid taxes.


Potential for insolvency and personal liability

While a limited company structure usually shields you as a director from personal liability, this protection may alter in the face of insolvency. 

If your company encounters financial difficulty, especially with HMRC pursuing tax arrears, you may personally become liable for the company’s debts, as HMRC is known for taking assertive measures to recover what is owed.

Furthermore, in the event of your company being liquidated and having an overdrawn director’s loan account, you will be required to repay the money for the benefit of your creditors.


‘Disguised employment’

Distinguishing between being an employee and an independent contractor can be tricky. The nature of the work might be the same, and if an employee transitions to a contractor role with the same company, HMRC could perceive it as ‘disguised employment’.

HMRC raises concerns about the tax and other benefits gained through operating under a limited company. With a limited company, you can utilise advantageous loans through a director’s loan account, receive payment through dividends instead of a full salary under PAYE, and have the right to claim various business expenses.

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How does IR35 influence insolvency?

If HMRC determines that your current or past contracts fall under IR35 regulations, you may be responsible for a substantial tax sum. 

They will assess the taxes you’ve paid and subtract this from the total liability you would have had as an employee under PAYE.

The likelihood that you primarily receive your pay in dividends throughout the year gives you a tax advantage that HMRC aims to curtail.

Personal service companies face a heightened risk of tax investigations by HMRC. An abrupt and unforeseen rise in tax obligations can lead to significant financial challenges for your company, and potentially impact you personally if you’re not vigilant about the associated risks.

Vanguard Insolvency can assist you in comprehending the legislation impacting personal service companies and its potential effects on your business. With a network of over 100 UK offices, we provide a complimentary same-day consultation to assess your specific requirements.

Senior Partner at Vanguard Insolvency Practitioners | Website | + posts

I am an insolvency professional with a distinguished career specialising in commercial insolvency, adeptly navigating Creditors Voluntary Liquidation, Company Voluntary Arrangements, and Company Administrations. With a comprehensive understanding of insolvency laws and an unwavering commitment to ethical practices.