IR35 is a UK tax rule that determines whether a contractor working through a personal service company (PSC) is actually an employee in disguise. If IR35 applies, the contractor must pay employee-level income tax and National Insurance instead of lower self-employed rates.
IR35 has transformed the UK contracting market since 2021. Before April 2021, the risk and responsibility fell entirely on the contractor. After April 2021, large clients (the vast majority of enterprise contractors) must assess IR35 status and withhold PAYE and National Insurance if it applies. For contractors, this means less flexibility - a client saying "IR35 applies to you" can materially reduce take-home pay, often by 20-30% depending on rate and the employer NI passed through.
For accountants, IR35 is a complex advisory area. Many contractors don't understand the rule, don't assess themselves properly, and end up in disputes with HMRC. A good accountant can save a contractor thousands by helping them document their self-employed status, challenge incorrect determinations, or correctly calculate withholding if IR35 does apply.
For medium and large clients (meeting 2 of: turnover above £10.2m, balance sheet above £5.1m, more than 50 employees), IR35 is now a compliance obligation. If they get it wrong, they can face HMRC penalties and contractor claims for wrongly withheld tax.
IR35 sits at the intersection of employment law and tax law. The rule is simple in principle - if you're an employee in disguise, you pay employee tax - but complex in practice because the tests are subjective and fact-dependent.
The legal tests:
HMRC uses a "multiple factors" approach, not a checklist. Courts have applied the same tests:
Control. Does the client direct you on what to do, when to do it, and how? Employees are controlled; self-employed people are not. If a client tells you "You must be in the office 9-5, on this project, using this tooling," that looks like control. If you say "I'll deliver feature X by 15 March, my way," that's less controlled.
Substitution. Can you send someone else to do the work, or must you personally attend? Employees must personally perform. Self-employed people can often subcontract. A clause saying "You can send a substitute" is strong evidence against IR35. A clause saying "You personally must deliver" or absence of any substitution right supports IR35.
Integration. Are you part of the client's team? Do you attend team meetings, use their systems, follow their processes? Employees are integrated. Self-employed contractors are typically separate. If you're in a client's team on the company directory, that suggests employee status.
Mutuality of Obligation (MoO). Is there a continuing obligation from both sides? The client agrees to offer work, and you agree to accept it? Or is it order-by-order, where either side can walk away? Employees have MoO - they expect ongoing employment and the employer expects to employ them. Casual contractors may not.
Other factors. Client provides equipment? Employee-like. Conduct is professional and integrated? Could be either. You invoice monthly or project-based? Self-employed. You're paid via payroll on the client's system? Employee-like.
Real example:
A software developer contracts with a bank through their PSC, "DataTech Solutions Ltd." The contract says "self-employed." But the facts are: the bank tells them which projects to work on, they attend the bank's standup meetings daily, they use the bank's laptops and development environment, they're on the bank's internal directory, there's no written right to substitution (and no evidence they've ever sent a substitute), and the bank expects work for 4 days per week indefinitely. IR35 likely applies. The developer is an employee in disguise.
Compare: a data engineer contracts with a startup, also through a PSC. The startup gives them a product goal - "Build a recommendation engine." The engineer designs the approach, chooses the tech stack, works when they want (even nights and weekends if they choose), could send another engineer to meetings if they wanted, and works 10-15 hours per week while taking other clients. IR35 probably doesn't apply. They're genuinely self-employed.
The assessment process:
If your client is medium or large, they'll typically use HMRC's CEST tool or a third-party IR35 status determination tool. The tool asks questions (Control? Substitution? Integration? MoO?) and outputs a determination. The client then tells you: "IR35 applies" or "IR35 does not apply." If it applies, they must withhold from your invoices. If you disagree, you can challenge and request dispute resolution, ultimately escalating to tribunal if needed.
If your client is small, you make the determination yourself and are responsible for withholding if you conclude IR35 applies.
Common mistakes:
Best practices:
If you operate a PSC and are subject to IR35, Aarvo tracks your net income and tax liabilities accurately. When your client withholds PAYE and National Insurance, Aarvo shows the impact on your cashflow and profit - so you know exactly how much the IR35 determination is costing you.
Aarvo also integrates with your bank and accounting records to pull invoices and payments, so if you need to defend your IR35 status in a dispute, you have a complete, automatically-compiled picture of your working relationship: invoice dates, amounts, frequency, payment schedule, and multiple clients. That documentation is invaluable if HMRC challenges you.
IR35 is an anti-avoidance rule introduced in 2000 to stop contractors avoiding income tax and National Insurance by working through a personal service company (PSC). The rule asks: is this contractor really self-employed, or are they an employee working under a different label? If IR35 applies, the contractor's PSC must treat the fee as employment income and withhold PAYE plus employee National Insurance (8% main rate from April 2024), with employer NI on top. Genuinely self-employed contractors pay dividend tax plus Class 4 NI at 6%. The difference can be several thousand pounds a year.
IR35 applies if you work through a PSC but are genuinely an employee in all but name. HMRC weighs four main tests: Control (does the client direct what, when, and how you work?), Substitution (can you send someone else to do the job?), Integration (are you embedded in the client's team and systems?), and Mutuality of Obligation (does the client have to offer work, and you to accept it?). The test is factual - a contract labelled 'self-employed' does not override the reality of the working relationship.
From April 2021, responsibility shifted. If your client is a medium or large organisation (meets 2 of: turnover above £10.2m, balance sheet above £5.1m, more than 50 employees), the client must make the IR35 determination and withhold PAYE and NI from your invoice if it applies. If your client is small (below those thresholds), responsibility stays with your PSC - you decide, and you face the tax bill plus interest and penalties if HMRC disagrees. The burden of proof sits with you in any dispute, which is why most contractors keep an annual written assessment.
If you fail to withhold when IR35 applied, HMRC can assess the PSC for back taxes, interest, and penalties (30-100% of tax owed depending on whether the error was careless or deliberate). If you over-withhold when IR35 doesn't apply, you may owe the contractor a refund. To avoid both: document your assessment using HMRC's CEST tool or an accountant, keep evidence of the factors that support your position, update the assessment yearly, and consider IR35 insurance if you are borderline.
Yes. If your client's determination goes against you, you can trigger the client's formal disagreement process, and if unresolved escalate to the First-tier Tribunal (Tax). To win, you need evidence that the relationship is genuinely self-employed: you set your own rates, you have concurrent clients, you have rejected work, you manage your own schedule and methods. Tribunals look at the totality of circumstances, not one factor in isolation. Detailed records and specialist advice materially improve your odds in grey-area cases.
Employment status and IR35 are separate questions. Employment status asks: are you employed, self-employed, or a worker? Workers have some employment rights (minimum wage, holidays) but not all; employees get full rights. IR35 is about tax only - it's a rule that says even if you're a self-employed PSC, tax-wise you may be treated as an employee. You could be a 'worker' under employment law (and entitled to workers' rights) but not subject to IR35 (and paying lower tax). Or you could be self-employed under employment law but fall within IR35 (and pay higher tax). They're different tests applied by different arms of government. HMRC (tax) enforces IR35; tribunals and employment law enforce worker/employee status.
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