Consultancy agreements play a pivotal role in defining the working relationships between clients (usually a business), individual consultants and personal service companies (PSCs). The aim of a consultancy agreement is to establish the rules of engagement, duties, and responsibilities between the parties, while also addressing the critical issue of employment status (particularly in relation to IR35 legislation).

A consultancy agreement is a legal contract that protects the interests of both the consultant and the client. They provide a clear framework for the consulting relationship, helping to prevent misunderstandings and disputes.

When do you need a consultancy agreement?

Consultants often work independently as self-employed consultants or freelancers. An individual consultancy agreement is a contract between an individual consultant and a client. You might engage with an independent consultant who has specialised skills and expertise that isn't available in your employee workforce. This could be a short or long-term arrangement. You may also engage with a consultant on project-based basis for a fixed period of time to help with team capacity etc.

A personal service company (PSC) is a separate legal entity established to provide the services of an individual consultant. PSC consultancy agreements are designed to specifically accommodate this business structure.  PSCs can offer tax advantages, making them an attractive option for consultants. Some clients may prefer to engage with corporate entities, like PSCs, for various reasons, such as compliance or administrative simplicity. Beware that using a PSC can also limit personal liability against the consultant. The consultancy agreement ensures that any legal obligations or disputes are directed toward the company, protecting personal assets of the consultant as an individual.

What do you need in a consultancy agreement?

It's really important that the parties involved are clearly defined, and more specifically whether the consultant is an individual or PSC. We'd also expect to see a detailed description of the services to be provided by the consultant and the duration of engagement (if this is applicable). The consultancy agreement should address confidentiality and how any accessible sensitive information will be protected as well as clarifying ownership and usage rights of any work produced during engagement.

The arrangement should also formalise the compensation details as well as setting any payment schedules and rules around additional expenses etc. Nobody wants to be thinking about the end before anything has even begun but it's crucial to formalise the conditions under which either party can terminate the agreement and also establish the procedures for resolving conflicts and disputes, should they arise.

What is the significance of IR35 legislation and consultancy agreements?

IR35 was introduced to address what the government perceived as tax avoidance and unfair employment practices within the consultancy sector. The legislation was designed to tackle the issue of “off-payroll working”, where individuals who would otherwise be classified as employees engage in work as a consultant to reduce their tax liabilities. The ultimate objective of IR35 is to ensure that individuals who were, in essence, working as employees would be taxed and be entitled to various employment rights, regardless of the contractual arrangements they used.

IR35 doesn’t apply to consultancy agreements where a client engages with an individual consultant directly.  The responsibility for determining the employment status of individuals engaged in consultancy agreements lies with the engaging client (you). This means that you must assess whether the individuals you're engaging with should be classified as employees. To determine this, clients should consider employment factors such as control, substitution, and mutuality of obligation. There is also a useful online test (CEST test) which you can use to check employment status.

Given all the concern around IR35, it may sound strange, but small businesses may prefer to engage with corporate entities, such as PSCs, due to IR35 compliance concerns. This is because, when the client is categorised as a small business, the PSC (i.e. the intermediary) is required to determine whether the arrangement meets the employment factors and therefore deemed an employee, rather than the business/client.  However, this isn't the same for medium or large private sector organisation. You could of course seek to address this risk in any consultancy agreement by way of indemnities, but it is certainly worth considering before you enter into the relationship.

How can we help?

If you want to discuss individual consultancy vs PSCs, learn more about IR35 complications or get some help drafting a water-tight consultancy agreement - get in touch with the team.