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What is mutuality of obligation and why do contractors need to know about it?

What is mutuality of obligation and why do contractors need to know about it?

Mutuality of Obligation or ‘MoO’ is one of the key tests of employment status. Alongside the concepts of ‘control’ and ‘right of substitution’, it is used to determine whether or not IR35 should be applied to a contract. Recent changes to the off-payroll rules have resulted in tighter IR35 legislation, with MoO and the other key factors coming under close scrutiny in the ensuing controversy. In this article, Contracting Scout explains the theory behind MoO and how contractors can protect themselves by understanding the relevance of this important concept.

What is the theory behind Mutuality of Obligation?
Under normal conditions of employment there is a mutuality of obligation between the worker and the employer: The employer is obliged to provide work for the employee, and the employee is obliged to accept it. There is an expectation that this obligation is continuous until the employee is made redundant or chooses to leave of their own accord.

For most contractors, mutuality of obligation does not apply. After an initial contract ends, there is no obligation for the client to provide further work, or for the contractor to accept any subsequent contract that is offered by the client. If a contractor regularly works on new or rolling contacts for the same company, this can be used by HMRC to suggest that they are employees.

In order to avoid this, the contractor will need to clearly demonstrate that they have the right to refuse further work from the client. The terms of the contract should clearly indicate that, rather than being obliged to turn up at the client’s office every day to complete whatever work is assigned to them, the contract is finite. This is because the contractor completes one-off projects and each subsequent project, even if it is for the same client, will require a separate contract.

Since the introduction of IR35 in April 2000, MoO has played an important role in tax tribunals in determining the difference between employees and independent workers. Case law has resulted in a clearer definition of MoO, including the understanding that MoO does not apply while the contract is in progress. Crucial to the concept of contracting, as opposed to that of employment, is the understanding that either party can terminate the contract at any time without further payment or legal consequence.

The absence of MoO from CEST (Check Employment Status for Tax)
Given the importance played by MoO in IR35 case law, HMRC’s failure to incorporate it as a key determinant in their online employment status tool, CEST, has resulted in industry criticism. When asked to account for this absence, HMRC relied on the assumption that MoO is automatically present in all contracts for services rendered, and therefore cannot be used to determine IR35. Tax experts and industry spokespeople have used this overly simplistic interpretation of MoO to highlight HMRC’s limited understanding of employment law. Not only does it fail to take into account the increasingly complex working practices of the UK’s dynamic labour force, HMRC’s difficulty in interpreting its own legislation without mistakes and contradictions hardly bodes well for contractors.

With the off-payroll reforms set to apply to the private sector in 2020, there have been calls from industry bodies for HMRC to urgently address the current issues around CEST in order to avoid further damaging the UK’s independent workforce and their significant contribution to the economy.

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