Statements of Work – The Answer to your Compliance Headaches?

It’s been just over a year since the introduction of IR35 reforms in the private sector and we’re starting to see HMRC take enforcement action.

In recent months, we’ve seen several public sector bodies fall foul of the rules, with tax and penalties running into millions, and now it’s the private sector’s turn to receive the same attention.

Against a backdrop of a widespread labour shortage in many sectors, plus the rising cost of living, the increased legislative grip is presenting a complex challenge to the whole labour supply chain.

In response, many in the temporary labour supply chain have looked to alternative methods of engagement that would help retain access to a flexible and skilled resource whilst complying with the law.

One such idea has been the adoption of output-based contracting arrangements, often referred to as Statement of Work (SoW) or ‘contracted out’ work.

These are contracts that involve the payment of a fixed price for a pre-defined deliverable as opposed to a time-based charge such as a day rate. Suppliers who work to SoWs will generally be specialist providers or consultancy businesses in fields such as IT, design, and construction-related activity.

Statement of Works Explained

In most common contractual agreements for the supply of services, a contract outlining the higher-level arrangements between the parties exists and is commonly known as a Managed Service Agreement (MSA).

An MSA will usually include a description of the parties involved, payment terms and conditions, details concerning indemnifications, a date from which the agreement is effective, and an overview of the services to be performed and provided.

An SoW is an additional document detailing the specific deliverables, the timescales, how the services are to be delivered and the total cost.

As a minimum, the key details required in a SoW should be as follows:

• Introduction – what is to be done and by whom.
• Reasons – what are the reasons for the project or work.
• Scope – what needs to be done and what processes might be used to do it.
• Location – where the work is to be completed; this could be on-site or at the suppliers’ premises, for example.
• Tasks – provide a breakdown of the scope into the tasks required to complete the work.
• Resources – List all labour, equipment and materials required to complete the work.
• Milestones – detail the significant phases of the project at which reviews can be conducted.
• Deliverables – clearly detail the key outcomes and results required along with dates when they are due.
• Systems and Standards – identify and define any systems or standards that the project may need to use or meet to achieve success.
• Costs and payment – clearly detail the costs of providing the services along with a schedule of payment due dates. This should include any penalties or fines for late or unsuccessful delivery.
• Other – any other specific terms, conditions or requirements necessary for the completion of the project.

The SoW combined with the MSA describes a fully contracted-out service which is to be managed wholly by the supplier (PSC) or consultancy business which retains liability for the services provided, takes responsibility for any rectifications and accepts the financial risks of not completing the work to the agreed standards or timescales.

In contrast, most agreements render the buyer liable for all work completed, and costs can fluctuate without penalty, depending on the number of hours worked by the worker(s) provided.

Managing a Statement of Works

Whilst SoW arrangements should, in theory, be a viable way to navigate the IR35 changes, they should be managed with caution to ensure compliance. As in many other areas around employment status, looking purely at the legal documents in place is unlikely to be sufficient on its own.

According to HMRC’s employment manual ESM 10010 – off¬-payroll working legislation: Chapter 10, ITEPA 2003 (from 6 April 2021): basic principles; contracted-out services, “Where a person enters into a contract for a fully contracted out service, they will not be the client. This is because the worker’s true client is the party who the work has been contracted out to; the ‘service provider’. The service provider is the party most akin to the worker’s employer.”

“A person who receives a fully contracted out service does not need to apply the off¬-payroll working legislation, as they will be above the client in the contractual chain and will have no obligations under Chapter 10, Part 2 ITEPA 2003 in relation to that contract.”

However, HMRC goes on to stipulate that “Care should be taken to ensure that a labour supply contract has not simply been re-labelled as a managed service. For example, labelling a contract as a contracted-out service or a ‘statement of work’ when in reality the contract contains a provision for labour will not prevent the off¬-payroll working rules from applying, and the reality of the arrangements should be considered”.

As with other contracts for services, HMRC will always test the agreement’s substance over the form or contract. In other words, they will test the actual and physical working practices conducted by the supplier rather than relying on the contract’s wording. This is where a SoW, solely put in place to help avoid the IR35 legislation, is most likely to fail an HMRC investigation.

In reality, the ‘service provider’, or supplier should be acting as the controlling brain behind the project, and should be able to make a larger or smaller profit margin depending on how well the overall delivery progresses. This supplier will need to ensure that the work completed meets the terms of the SoW and will need to retain control of all labour and resources throughout the work. They will be expected to conduct reviews and provide regular updates on progress, especially in terms of tasks, schedules and milestones.

Summary

In summary, SoW represents a genuine service provision option to end clients. However, correct implementation is more complex than time-based charging arrangements, so it’s important to proceed with caution.