IR35, formally known as the off-payroll working rules, is the UK tax legislation that determines whether a contractor working through their own intermediary, usually a personal service company (PSC), should be taxed as if they were an employee of the end client. The rules exist to counter what HMRC calls disguised employment, where a worker uses a PSC to access tax efficiencies even though, in substance, they work like an employee. If a contractor is found to be inside IR35, income tax and National Insurance must be deducted as if they were on payroll, removing most of the tax advantage of the PSC arrangement.
How does IR35 work?
At the start of each engagement, the end client (in most cases) must assess whether IR35 applies. The assessment looks at the same factors used to distinguish a contractor from an employee anywhere in the world.
- Control: who decides what work is done, how it is done, when, and where.
- Substitution: whether the contractor has a genuine right to send a substitute to do the work.
- Mutuality of obligation: whether the client is obliged to offer work and the contractor obliged to accept it on an ongoing basis.
- Integration and exclusivity: whether the contractor is embedded in the client's team and works exclusively for that client.
The conclusion is recorded in a Status Determination Statement (SDS), which the client must share with the contractor and any agency in the chain.
Inside IR35 vs outside IR35
| Aspect | Inside IR35 | Outside IR35 |
|---|---|---|
| Tax treatment | Income tax and NI deducted as for an employee | Paid gross via PSC; contractor handles own tax |
| Employment status | Like an employee for tax, not employment law | Genuine self-employed contractor |
| Who deducts tax | Fee-payer (client or agency) | Contractor pays via the PSC |
| Take-home pay | Lower; closer to employee net pay | Higher; tax efficiency of corporate structure |
Who is responsible for the determination?
- Large and medium-sized private sector clients and all public sector clients: the end client makes the IR35 determination and the fee-payer in the chain operates payroll deductions if inside IR35.
- Small private sector clients: the contractor's own PSC remains responsible for assessing IR35 under the original rules.
Why IR35 matters for global employers
- Tax exposure: incorrect determinations can lead to liability for unpaid PAYE, NI, penalties, and interest, sitting with the client or fee-payer.
- Talent strategy: contractors who lose tax efficiency under IR35 often push for higher day rates, conversion to employment, or work via an umbrella company.
- Operating model: long-running, embedded contractors are usually safer engaged as employees through an EOR or via an umbrella, rather than through a PSC.
For global companies engaging UK contractors, the simplest way to manage IR35 risk is to either run a robust status determination process or to hire the worker as an employee through an Employer of Record in the UK.
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