IR35 - Why is it important?

Introduced in 2000 by the Inland Revenue (now HMRC), IR35—also known as the “off-payroll working rules”—is a cornerstone of UK tax law aimed at addressing disguised employment. Its goal is to ensure that workers operating as contractors through intermediaries, such as limited companies, pay the appropriate taxes and National Insurance Contributions (NICs) if their working relationship resembles that of an employee.

The legislation has evolved significantly over the years:

2017 Public Sector Reform: Responsibility for determining IR35 status shifted from contractors to public sector organisations, aiming to improve compliance and reduce tax avoidance.
2021 Private Sector Reform: Originally planned for 2020 but delayed due to the COVID-19 pandemic, these reforms extended the rules to medium and large private sector businesses. Since April 2021, these businesses must assess the IR35 status of their contractors, ensuring taxes are deducted via PAYE if the contractor is deemed inside IR35.

As of April 2025, the 2017 and 2021 reforms remain in place, with HMRC continuing to enforce compliance. Recent data from HMRC indicates that these reforms have generated over £1.5 billion in additional revenue since 2021, reflecting their impact on reducing tax avoidance. However, the rules have sparked ongoing debates, particularly around the accuracy of status assessments and their effect on the contractor market.

What Is IR35 and How Does It Affect You?

IR35 targets “disguised employment,” where employers hire workers as contractors to avoid providing employee benefits (e.g., pensions, sick pay, holiday pay) and paying Employers’ NICs. As a contractor operating through a limited company, IR35 determines whether your engagements fall “inside” or “outside” the rules:

Inside IR35: If your working relationship mirrors that of an employee (e.g., you’re managed like staff, with little autonomy), you’re deemed inside IR35. The hiring company or agency must deduct income tax and NICs via PAYE, treating you as an employee for tax purposes.
Outside IR35: If you operate as a genuine contractor with control over your work, the ability to send a substitute, and no expectation of ongoing work, you’re likely outside IR35. You’ll receive gross payments to your limited company and handle your own taxes and NICs, often making this the more tax-efficient option.

HMRC estimates that misclassification costs the UK economy around £1.3 billion annually, with ongoing efforts to tighten compliance in both public and private sectors.

Who Determines IR35 Status?

Since April 2021, medium and large private sector businesses, as well as all public sector organisations, must determine the IR35 status of their contractors and issue a Status Determination Statement (SDS). However, small businesses are exempt, meaning contractors working for them assess their own status.

Following recent changes effective April 6, 2025, the Companies Act 2006 thresholds for small and medium-sized businesses have been updated. A company qualifies as small if it meets two or more of these criteria:

Turnover: Not more than £15 million (up from £10.2 million).
Balance Sheet Total: Not more than £7.5 million (up from £5.1 million).
Number of Employees: Not more than 50 (unchanged).

A medium-sized business meets two or more of these:

Turnover: Not more than £54 million (up from £36 million).
Balance Sheet Total: Not more than £27 million (up from £18 million).
Number of Employees: Not more than 250 (unchanged).

These changes mean more businesses may now qualify as small, shifting IR35 responsibilities to contractors for those engagements. If you’re deemed inside IR35 by a medium or large client, they’ll deduct taxes at source, impacting your net income.

In the public sector, the 2017 rules still apply, with public bodies determining status. If you’re inside IR35, taxes are deducted at source, which can significantly reduce your take-home pay compared to operating outside IR35.

Using HMRC’s CEST Tool for IR35 Assessments

HMRC offers the Check Employment Status for Tax (CEST) tool to help determine IR35 status. It assesses whether a contract falls inside or outside IR35 by evaluating factors like:

Who controls the work (e.g., what tasks are done, when, where, and how)?
How the worker is paid (e.g., fixed salary vs. project-based)?
Whether benefits or expense reimbursements are provided.
The worker’s responsibilities and working practices.

However, CEST has faced criticism. As of 2025, HMRC has improved the tool following feedback, but around 10–15% of users still report inconclusive results, often due to complex working arrangements. To use CEST effectively, ensure your answers reflect your actual working practices, not just your contract terms. Non-compliance can lead to significant penalties, including back taxes and fines from HMRC.

Key Factors in Determining IR35 Status

When assessing IR35 status, three main principles are considered:

Control: Does the client dictate how, when, and where you work? High control suggests you’re inside IR35, while autonomy indicates you’re outside.
Substitution: Can you send a substitute to perform the work if you’re unavailable? The right to provide a substitute is a strong indicator of being outside IR35, as it shows the contract is for a service, not a specific person.
Mutuality of Obligation (MOO): Is there an expectation of ongoing work after the contract ends? Inside IR35 contracts often involve MOO (e.g., the client expects to provide more work, and you’re expected to accept it). Outside IR35 contracts are typically project-based with clear start and end dates.

Other factors, like whether you’re integrated into the client’s organisation (e.g., using their email, attending staff meetings), can also influence your status. If you’re unsure, reviewing your contract and working practices with an accountant can provide clarity.

Tips for Staying IR35 Compliant

Navigating IR35 can be challenging, but these steps can help you stay compliant and minimise risks:

Use the CEST Tool: Start by assessing your status with HMRC’s CEST tool to understand your position.
Review Your Practices: After using CEST, audit your working arrangements. For example, ensure your contract reflects outside IR35 practices (e.g., no MOO, right of substitution) and aligns with how you actually work.
Consider Rate Adjustments: If deemed inside IR35, your tax liability increases. You may need to negotiate higher rates with clients to offset the additional deductions.
Prepare for HMRC Checks: HMRC may investigate your status, especially if your contract seems borderline. Keep detailed records of your working arrangements, contracts, and CEST results to support your case.

How SBX Accountants Can Help

At SBX Accountants, we understand the complexities of IR35 and its impact on contractors, freelancers, and businesses. While we don’t determine your IR35 status directly, we can guide you through the process, helping you assess your contracts, understand HMRC’s rules, and ensure compliance. Whether you’re a contractor operating through a limited company or a business hiring contractors, our team provides expert advice to help you work through IR35 rules confidently.

For more in-depth information, including how to handle HMRC investigations and optimise your tax strategy. Contact us today to discuss how we can support your tax and accounting needs.

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Understanding IR35: A Guide for UK Contractors