IR35 (the off-payroll working rules) is UK tax legislation that stops contractors working through a personal service company (PSC) from paying less tax than an equivalent employee would, when the actual working relationship looks like employment in substance. If you're "inside IR35", your fee is taxed roughly like a salary, with PAYE and National Insurance deducted. If you're "outside IR35", you're taxed as a genuine business, usually more efficiently. Since April 2021, medium and large private-sector clients decide your status, not you — unless your client counts as a "small company," in which case the older rules apply and your own PSC makes the determination. From April 2026, the financial thresholds defining a "small company" are rising, meaning more clients will qualify as small over the next few tax years, though specialists disagree on exactly when this takes practical effect for any given contractor, since it depends on the client's specific financial year.
IR35 gets its name from the original 1999 press release that announced it, HMRC's "Inland Revenue 35." Nearly three decades later, it's still one of the most misunderstood pieces of UK tax law, largely because the rules changed twice in major ways — 2017 for the public sector, 2021 for the private sector — and a lot of the advice floating around online still describes the old system.
01 What IR35 actually is, in plain terms
Some contractors set up a limited company (a personal service company, or PSC) purely to provide their own labour to one client, structured in a way that produces lower tax than being employed directly would. IR35 exists to close that gap. It asks one question: if the PSC didn't exist, would this look like an employment relationship? If yes, you're inside IR35, and tax is collected roughly as if you were an employee. If the relationship genuinely looks like one business engaging another, you're outside IR35, and your PSC is taxed as a normal company — Corporation Tax on profit, then salary and dividends as you choose to draw them.
02 Who decides your status now
| Client type | Who determines IR35 status | Legal basis |
|---|---|---|
| Medium or large private-sector client | The client, via a Status Determination Statement (SDS) | Chapter 10, ITEPA 2003 (since April 2021) |
| Small private-sector client | Your own PSC | Chapter 8, ITEPA 2003 (the original rules) |
| Public sector client (any size) | The client | Chapter 10, ITEPA 2003 (since April 2017) |
"Small" here means the Companies Act definition: a company meeting at least two of three thresholds — turnover, balance sheet total, and average employee headcount. If your end client is small, the responsibility and the paperwork sit with you, not them.
03 The tests that determine inside vs outside
No single test is decisive. HMRC and tribunals weigh several factors together, but three carry the most weight in practice:
- Control — does the client dictate how, when and where you work, or do you decide the method and simply deliver the agreed outcome? Heavy client control over your day-to-day work points toward employment.
- Substitution — could you send a suitably qualified substitute to do the work instead of you personally, and would the client accept that? A genuine, unfettered right of substitution is one of the strongest indicators of self-employment.
- Mutuality of obligation — is the client obliged to keep offering you work, and are you obliged to accept it, in an ongoing way similar to employment? Project-based engagements with a defined end tend to look more like genuine contracting.
Financial risk, provision of your own equipment, working for multiple clients simultaneously, and lack of employee-style benefits (holiday pay, sick pay, pension enrolment) all add supporting weight, but the three tests above are where most real disputes are actually won or lost.
04 Worked example: inside IR35
Deepak's day-to-day looks, in substance, like being a bank employee who happens to invoice through a limited company. The bank's own assessment reflects that, and tax is collected accordingly — he loses the tax efficiency of the PSC structure for this engagement, even though the company itself still exists and could take on other, genuinely outside-IR35 work.
05 Worked example: outside IR35
The genuine right of substitution and the absence of day-to-day control are what carry this one. Freya isn't managed like staff, isn't required to be present at fixed hours, and the engagement has a defined deliverable rather than an open-ended obligation to keep turning up.
06 The April 2026 small company threshold change
From 6 April 2026, the Companies Act thresholds that define a "small company" rise: turnover from £10.2 million to £15 million, balance sheet total from £5.1 million to £7.5 million. Employee headcount stays at 50. A company only needs to meet two of the three to qualify as small — so a business with £14 million turnover, a £4 million balance sheet, and 45 staff would now count as small, moving IR35 status decisions back to contractors for that engagement.
HMRC estimates roughly 14,000 companies will be reclassified as small as a result. But there's a genuine technical wrinkle worth knowing about: because off-payroll status is assessed against a client's prior financial year, exactly when this reclassification bites depends on each company's specific year-end. Some specialists place the earliest practical effect in the 2026/27 tax year; others argue the mechanics of the legislation mean the earliest possible date is actually 2027/28 for most affected companies. If your end client is close to these thresholds, the practical advice is the same either way: ask them directly when they expect to reclassify, rather than assuming a single date applies across the board.
If your client does reclassify as small, the responsibility for determining your IR35 status passes to your own PSC. That's not automatically good news — it means you carry the risk of getting it wrong, without the client's assessment to rely on.
07 What happens if your status is wrong
If HMRC successfully challenges an "outside IR35" determination, the liability generally falls on whoever made the incorrect determination — the client, if they assessed it (under the 2021 rules), or the contractor's own PSC, if the contractor self-assessed under the small-company rules. The consequence is typically a demand for the PAYE and NIC that should have been deducted, plus interest, and potentially penalties depending on how the error is characterised. Genuine, reasonable errors are treated differently from careless or deliberate ones, but "I didn't realise" is a weaker position than having a documented, reasoned status assessment on file.
08 Frequently asked questions
No, not in any way that would hold up to scrutiny. A Status Determination Statement has to reflect the genuine working relationship, not the outcome either party would prefer. HMRC can challenge determinations that don't match reality, and a client that issues status statements carelessly risks its own liability.
No. IR35 specifically concerns individuals providing services through an intermediary, usually a personal service company. Sole traders are assessed under separate, longstanding employment status principles rather than the IR35 framework itself, though the underlying control and substitution tests are conceptually similar.
Yes. IR35 status is assessed per engagement, not per contractor. It's entirely possible to be inside IR35 on one contract and genuinely outside IR35 on another, run through the same PSC, if the actual working arrangements differ.
CEST (Check Employment Status for Tax) is HMRC's own online tool for assessing IR35 status. HMRC says it will stand by CEST's outcome provided the answers given are accurate, but the tool has been criticised for oversimplifying genuinely borderline cases, particularly around mutuality of obligation. Treat it as a starting point, not a substitute for a properly reasoned assessment.
Confirm with your client when their reclassification takes effect for IR35 purposes specifically, since this can differ from their general accounting size classification. Once responsibility passes to you, you'll need your own reasoned status assessment on file for each engagement, ideally before work begins rather than after HMRC asks.
Not sure where you stand on IR35?
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