The IR35 rules, formally the off-payroll working rules, treat someone who bills a client through their own limited company or other intermediary as an employee for tax purposes if the underlying working relationship looks like employment. For engagements with public bodies and medium-to-large private organisations, the client decides whether you sit inside or outside the rules and deducts Income Tax and National Insurance before paying your company. For engagements with small private clients, the old regime still applies and your own company makes the call. The framework sits in Chapter 10 of Part 2 of the Income Tax (Earnings and Pensions) Act 2003, with the private-sector reform arriving through the Finance Act 2020.1GOV.UK. New Clause 1 and New Schedule 1 – Workers Services Provided Through Intermediaries
Who Decides Your IR35 Status
Public sector bodies have made the status determination since 6 April 2017.2HM Revenue & Customs. Off-Payroll Working in the Public Sector – Changes to the Intermediaries Legislation Medium and large private-sector organisations took on the same duty from April 2021, after a one-year delay caused by the pandemic.1GOV.UK. New Clause 1 and New Schedule 1 – Workers Services Provided Through Intermediaries Every contractor engaged through an intermediary must be assessed to work out whether they would be an employee if that intermediary did not exist.
The Small Company Exemption
Private-sector clients that qualify as “small” under the Companies Act 2006 do not perform status determinations. When a client is small, the contractor’s own intermediary decides whether IR35 applies and settles the tax.3GOV.UK. Understanding Off-Payroll Working (IR35)
A company counts as small if it meets at least two of these three thresholds:
- Annual turnover of no more than £15 million
- Balance sheet total of no more than £7.5 million
- No more than 50 employees on a monthly average basis
These figures rose in April 2025 from the previous £10.2 million turnover and £5.1 million balance sheet limits, so some clients that were medium before that date now fall below the line.4GOV.UK. Prepare Annual Accounts for a Private Limited Company – Micro-Entities, Small and Dormant Companies The assessment uses the last full financial year’s figures. If you are a contractor and the client sits near the boundary, ask about their size classification before you start work, because if they qualify as small the responsibility for getting IR35 right sits with you.
How Status Is Judged
Whether an engagement is inside or outside IR35 turns on the substance of the working relationship, not the wording of the contract. Three factors drive the analysis, drawn from case law that the courts have applied for decades.5HM Revenue & Customs. Employment Status Manual – ESM7030
Personal Service and Substitution
The first question is whether you personally have to do the work. If the client insists on you and only you, that looks like employment. A genuine contractor typically retains the right to send a qualified substitute at their own cost, without an unreasonable veto from the client. A substitution clause that exists only on paper and would never be exercised carries little weight. What matters is whether the right is real and could actually be used.
Control
Control looks at who decides how the work is done, when, and where. A contractor with specialist expertise who manages their own schedule, chooses their own methods, and delivers agreed outcomes without day-to-day supervision looks like an independent business. A worker who is told which desk to sit at, which hours to keep, and which tasks come next looks like an employee. The distinction is whether the client controls the process or just the result.
Mutuality of Obligation
In employment, the employer is expected to provide work and the worker is expected to accept it. Between genuine businesses, an engagement usually covers a defined project, with no expectation of further work once it ends. If a contractor can turn down assignments without consequence, or the client has no obligation to keep offering them, that points toward a business-to-business arrangement.
Financial Risk and Integration
No single test is decisive. Financial risk carries weight: if you have to fix errors at your own expense, carry professional indemnity insurance, or could lose money on a project that overruns, you are bearing risk the way a business does. Integration matters too. Using company email, attending staff meetings, managing employees, or appearing on the org chart all suggest you are part of the organisation rather than an outside supplier.
Status Determination Statements
When the off-payroll rules apply to a client, the client must issue a Status Determination Statement for each engagement. A valid SDS contains three things: a clear conclusion on whether the contractor is inside or outside IR35, the reasons for that conclusion, and evidence that the client took reasonable care in reaching it.6HM Revenue & Customs. Status Determination Statements If any element is missing, the statement is invalid and the client becomes responsible for the contractor’s tax and National Insurance regardless of the actual status.
Reasonable care is where organisations most often fall short. Blanket determinations that classify every contractor the same way without looking at individual circumstances do not meet the standard. HMRC expects a case-by-case assessment based on the specific terms and working practices of each engagement. The client must pass the statement to both the contractor and the next party in the chain, such as a recruitment agency.
The CEST Tool
HMRC provides a free online tool called Check Employment Status for Tax, which asks a series of questions about the engagement and produces a determination. HMRC will stand by the result, provided the information entered is accurate and consistent with its guidance.7GOV.UK. Check Employment Status for Tax Optimistic answers will not protect you during an enquiry. Save the output and keep it with your other assessment records. HMRC guidance does not specify a retention period, but six years fits general tax practice and covers you if an enquiry opens years after the engagement ends.8GOV.UK. Record Keeping
Challenging a Determination
If you think the client’s determination is wrong, you can formally disagree. Clients are legally required to run a disagreement process.9GOV.UK. Client-Led Disagreement Process
Put your challenge in writing, setting out the specific reasons you disagree and any supporting evidence, such as contractual terms or details of how the work actually operates. The client then has 45 calendar days from the date they receive your disagreement to respond. If they uphold the original conclusion, they must explain why. If they change their mind, they issue a revised SDS. You can raise a challenge at any point during the engagement, up until the final invoice is paid.
The pressure on the client to respond is real. If they fail to reply within 45 days, they become the deemed employer for PAYE purposes and take on liability for all tax, National Insurance, and Apprenticeship Levy due until they do respond.9GOV.UK. Client-Led Disagreement Process
What Being Inside IR35 Does to Your Pay
When a contractor is inside IR35, the party that pays the intermediary becomes the “deemed employer” and handles deductions much like a normal payroll. The deemed employer works out the payment, strips out any VAT on the invoice, and then deducts Income Tax and employee National Insurance from what remains before paying the net figure to the contractor’s company.10GOV.UK. Deemed Employer Responsibilities Under Off-Payroll Working Rules
The deemed employer also pays employer National Insurance and any Apprenticeship Levy. Those costs sit on top of the contract fee and cannot be taken out of what the contractor was promised. Everything is reported to HMRC through Real Time Information on or before the payment date.10GOV.UK. Deemed Employer Responsibilities Under Off-Payroll Working Rules
Under the original IR35 rules, contractors who self-assessed as inside could claim a flat 5% deduction from gross income to cover running costs. That allowance no longer exists where the client is responsible for the determination. It went for public-sector contracts in April 2017 and for private-sector contracts with medium and large organisations in April 2021. Only contractors working for small clients under the old self-assessment rules still get the 5%.
Working for Overseas Clients
The reformed off-payroll rules only apply when the client has a “UK connection,” meaning they are UK resident or have a permanent establishment in the UK immediately before the start of the tax year.11Legislation.gov.uk. Income Tax (Earnings and Pensions) Act 2003 – Part 2 Chapter 10 If you are a UK-based contractor working for a company that is wholly overseas with no UK office, branch, or subsidiary, that client has no duty to assess your status or operate PAYE.
You are not off the hook for tax. The older rules in Chapter 8 of ITEPA 2003 apply instead, and your own personal service company decides whether IR35 catches the engagement. If it does, your company accounts for the tax as if you were an employee. A foreign company with a UK presence, such as a registered subsidiary, is treated like any other UK-based medium or large organisation.
Penalties and Liability Moving Up the Chain
HMRC’s general penalty regime applies to IR35. Where a client or deemed employer gets the determination wrong through a lack of reasonable care, penalties run from 0% to 30% of the additional tax owed. Deliberate errors attract 20% to 70%.12GOV.UK. Penalties – An Overview for Agents and Advisers Where an SDS is invalid because it lacks reasons or was not made with reasonable care, the tax liability defaults to the client regardless of the contractor’s actual employment status.6HM Revenue & Customs. Status Determination Statements
Where contractors are engaged through a chain of agencies, the deemed employer is normally the entity closest to the contractor’s intermediary that pays the invoice. If HMRC cannot collect from that deemed employer within a reasonable period, liability can transfer upward, first to the agency at the top of the chain with a direct relationship to the end client, and if that fails, to the end client itself. These provisions, introduced by the Finance Act 2020, target arrangements where an intermediary entered the chain to avoid the tax or where recovery from the original deemed employer is not realistic.1GOV.UK. New Clause 1 and New Schedule 1 – Workers Services Provided Through Intermediaries Everyone in the supply chain has exposure, so vetting the agencies and intermediaries you engage with matters as much as getting the individual determination right.