How IR35 works for contractors is one of those questions that sounds simple until you try to read the HMRC guidance — and then suddenly you’re three browser tabs deep and more confused than when you started. So let me explain it properly, in plain English, without the legislative fog.

What IR35 Actually Is

IR35 is a piece of tax legislation that has been around since 2000. Its purpose is straightforward: HMRC wants contractors who work in a way that looks like employment to pay broadly the same Income Tax and National Insurance as an employee would. The legislation targets people who provide services through their own limited company (often called a personal service company or PSC) when their working arrangement would really be employment if you stripped away the company structure.

The test HMRC applies is called the ‘hypothetical contract’ test. It asks: if this contractor was engaged directly by the client, with no limited company in between, would that look like employment or self-employment? If the answer is employment, you’re inside IR35. If it’s genuinely self-employment, you’re outside it.

Inside vs Outside IR35: What It Costs You

This is where it gets real. If you’re caught inside IR35, your take-home pay typically drops by 20 to 30 percent. That’s because your income is processed through a deemed salary calculation, which means full PAYE income tax and National Insurance deductions, with far fewer expenses you can legitimately claim through your company.

Outside IR35, you can take a combination of salary and dividends, claim allowable business expenses, and keep a much larger slice of what you invoice. The difference on a day rate of £500 can easily be £15,000 to £25,000 a year in take-home. That’s why getting your status right — and understanding it before you sign a contract — matters so much.

Who Decides Your IR35 Status — and When the Rules Changed

This is where a lot of contractors get caught out. Before the 2017 and 2021 reforms, you were largely responsible for assessing your own IR35 status. Since the reforms, medium and large clients are responsible for issuing a Status Determination Statement (SDS) that tells you whether HMRC considers your engagement inside or outside IR35. If your client is classified as small, you still assess your own status.

From April 2026, the size thresholds used to classify a client as ‘small’ increased. The turnover threshold rose from £10.2 million to £15 million, and the balance sheet threshold rose from £5.1 million to £7.5 million. In practice, because IR35 size tests reference the previous financial year, these changes are likely to take effect from April 2027 for most contractors. It’s worth checking whether your client’s size classification has shifted.

What to Do If You’ve Been Determined Inside IR35

First, don’t panic. A determination that says ‘inside IR35’ is not automatically correct, and you do have the right to challenge it through a client’s disagreement process. The key factors HMRC looks at include control over how you work, whether you can send a substitute, whether there’s a genuine obligation to offer and accept work, and how integrated you are into the client’s business. If those factors genuinely point to self-employment, the determination may be wrong.

If the determination stands and you are inside IR35, you’ll want to make sure your company finances are handled correctly — because the tax treatment changes significantly. You’ll also want to think about whether this contract still makes financial sense compared to taking on outside IR35 work elsewhere. That’s a conversation worth having with an accountant who understands contractor finances, not just one who files annual accounts and hopes for the best.