What is IR35?

IR35, also called the off-payroll working rules, is tax legislation aimed at contractors who work through their own limited company (a personal service company) but who, in reality, work much like an employee of their client. If the rules apply, you are treated as a deemed employee for tax and pay broadly the same Income Tax and National Insurance as an employee would, rather than the more tax-efficient salary and dividend mix a genuine business can use. It exists to stop people using a company purely to lower their tax on what is effectively employment.

Financially, outside IR35 is usually better, because you can pay yourself a tax-efficient mix of salary and dividends and keep more of your income. Inside IR35 means employee-style deductions and lower take-home pay, though it brings less admin since tax is handled at source. The key point is that you do not choose, your status depends on the genuine nature of the working relationship. Trying to be outside when the reality is employment is what creates risk, so it should be assessed honestly.

It comes down to how you actually work, judged mainly on three tests: control (how much the client directs your work), substitution (whether you could send someone else in your place), and mutuality of obligation (whether the client must give you work and you must take it). The more your arrangement looks like employment, the more likely you are inside IR35. HMRC offers the CEST tool as a starting point, but borderline cases benefit from a proper contract and working-practices review, which is something we help contractors with.

PAYE is the system employers use to deduct Income Tax and National Insurance from employees’ pay. IR35 is the set of rules that decides whether a contractor working through their own company should effectively be taxed like an employee. If you are caught by IR35 (inside), your income is taxed in a PAYE-like way despite you not being a formal employee. So PAYE is the mechanism, and IR35 is the test that can pull a contractor’s income into that mechanism.

For work with medium and large private-sector clients, and all public-sector clients, the client (or the agency paying you) is responsible for determining your status and must give you a Status Determination Statement. If you contract for a small private-sector client, the responsibility stays with you and your own company. Either way, the determination should reflect the real working arrangement, and you can challenge a determination you believe is wrong. We can review your contracts and working practices to support that.

If your contract is inside IR35, the income from it is taxed broadly as employment income, so Income Tax and National Insurance are deducted and your take-home is lower than it would be outside. If HMRC successfully reclassifies a contract you treated as outside, it can seek backdated tax, National Insurance, interest and penalties, which can be significant. That is why it is worth getting status right at the outset rather than hoping, and why contractors often have their contracts and practices reviewed.