- IR35 targets contractors working through a limited company whose relationship resembles employment
- Inside IR35: income treated as salary — full income tax + NI, no dividend option
- Financial impact: typically £15,000–£25,000/year more tax on a £100k+ contract
- For medium/large clients: the client makes the status determination (SDS)
- For small clients: you self-assess your IR35 status
What is IR35?
IR35 — formally known as the off-payroll working rules — is UK tax legislation designed to prevent what HMRC calls 'disguised employment'. The problem it targets: a contractor who works through their own limited company for a single client, in a way that is functionally indistinguishable from employment, but pays significantly less tax by taking dividends rather than salary.
The legislation was introduced in 2000 and has been through major reforms in 2017 (public sector) and 2021 (private sector). It applies when the contractor's relationship with the end client, if it were stripped of the limited company intermediary, would be characterised as employment.
Why it matters financially
The tax difference between inside and outside IR35 is substantial. Outside IR35, a contractor can take most of their income as dividends taxed at 8.75% in the basic rate band. Inside IR35, the same income is treated as deemed employment income — subject to income tax at 20–40% and employee NI at 8%, with no dividend option.
On a £99,000 annual contract (£450/day, 220 days), the difference in take-home pay is typically £15,000–£25,000 per year. Use the IR35 calculator to model your exact figures.
Who decides your IR35 status?
This depends on the size of your end client:
| Client size | Who determines status? | What they must do |
|---|---|---|
| Medium or large private company; any public sector body | The end client | Issue a Status Determination Statement (SDS) |
| Small private company (meets 2 of 3 size tests) | Your company (you) | Self-assess and keep records |
The small company exemption applies where the client meets two of: turnover ≤ £10.2m, balance sheet ≤ £5.1m, and ≤ 50 employees.
The three core status tests
IR35 status is assessed by looking at the hypothetical direct contract — what the relationship would look like if the limited company were removed. Three tests dominate the analysis:
1. Personal service / substitution
Can you send a qualified substitute to do the work in your place, without the client needing to approve the specific individual? A genuine, unrestricted right of substitution points strongly toward outside IR35. A substitution clause that requires client approval based on personal preference undermines this.
2. Control
Does the client control how the work is done (not just what outcome is delivered)? Employment involves being managed — told when to work, where to work, and how to do the work. A contractor should have autonomy over their methods and working arrangements.
3. Mutuality of obligation (MOO)
In employment, the employer must provide work and the employee must accept it — there is an ongoing mutual commitment. For a contractor, the engagement should be for a defined project or deliverable with no expectation of ongoing work. Long-term contracts with the same client, renewed repeatedly with no break, start to look like MOO.
Other factors HMRC and tribunals consider
- Financial risk — do you bear the cost if work needs to be redone? Do you invoice for results, not time?
- Provision of equipment — do you supply your own tools and equipment?
- Integration — are you part of the client's organisation chart, given a work email, invited to staff events?
- Exclusivity — are you prevented from working for other clients simultaneously?
- Number of clients — working for multiple clients simultaneously is a strong indicator of genuine self-employment
What happens if you are inside IR35?
The fee-payer (usually the agency, or the client in a direct engagement) must operate PAYE on your payments. Your company receives income net of PAYE tax and NI. You can still operate through your limited company, but the tax treatment on that contract is as if you were employed. The company's income from that contract effectively cannot be extracted as dividends — it is already taxed as employment income.
Planning tip: Even inside IR35, employer pension contributions remain an effective mitigation. Your company can make employer pension contributions from the deemed employment income, reducing the taxable amount. This is often the only meaningful tax lever available inside IR35.
Common mistakes
- Assuming the contract wording is enough — HMRC looks at actual working practices, not just what the contract says. Favourable contract terms with unfavourable day-to-day reality carry little weight at tribunal.
- Not keeping records of working practices — if HMRC investigates, you need evidence of how the engagement actually worked, not just a contract. Keep contemporaneous records.
- Ignoring IR35 for small clients — small client engagements still require you to self-assess. The exemption means the client doesn't decide — it doesn't mean IR35 doesn't apply.
Use the calculator
Frequently asked questions
Does IR35 apply to all contractors?
Can I challenge an inside IR35 determination?
What is the 5% expenses allowance?
Can I be inside IR35 with one client and outside with another?
What if I disagree with my client's SDS?
Important: This guide is for general information only and does not constitute tax or legal advice. Tax rules change — always verify current rates and thresholds with HMRC or a qualified accountant before making decisions.