Home / Guides / IR35 Explained — Inside vs Outside
IR35 is the label attached to HMRC's anti-avoidance legislation targeting individuals who provide services through a personal service company in circumstances where they would, if engaged directly, be treated as employees. Getting the status determination right matters enormously — inside IR35 removes most of the limited company tax advantages that make contracting through a company worthwhile.
Last updated May 2026. Written by the LimitedCompanyTaxCalculator.co.uk editorial team and reviewed against current GOV.UK and HMRC guidance. Results are estimates for planning only and are not tax, accounting or financial advice.
The legislation targets the 'Friday to Monday' scenario: a person who leaves permanent employment on a Friday, registers a limited company over the weekend, and returns to work for the same client on a Monday, doing the same job under effectively identical conditions, but now invoicing through a company and extracting income as dividends rather than salary. The economic reality is the same as before — one person, one client, doing one job — but the tax treatment is radically different.
Under IR35, HMRC assesses whether the contractor would, in the absence of the limited company, be regarded as an employee of the client. If yes, the income is treated as deemed employment income and taxed accordingly — no dividend extraction, no limited company advantages, no reduction for company expenses beyond a 5% allowance in some scenarios.
IR35 has existed since 2000 but its enforcement has strengthened significantly. The key change since 2017 (public sector) and 2021 (large/medium private sector) is that the client rather than the contractor now determines IR35 status in most cases. This shifted the compliance burden and the liability for getting it wrong to the engager rather than the individual.
Substitution: can the contractor send a genuine substitute to perform the work? A true substitute clause — where the client would accept a different person and the contractor is not expected to do the work personally — is the strongest indicator of self-employment. A clause that exists in the contract but is never genuinely exercisable in practice carries little weight. HMRC looks at working arrangements, not just contract wording.
Control: who decides how the work is done, when it is done, and where? A contractor who works at the client's premises, under the client's direction, to the client's schedule, is exhibiting employment-like characteristics. A contractor who determines their own methods, works across multiple clients, and is engaged for outputs rather than availability looks more like self-employment.
Mutuality of obligation: is there an expectation on both sides that the client will offer work and the contractor will accept it? Genuine independent contracting involves no such obligation — the contractor can decline work and the client can choose not to offer it. Persistent arrangements where a contractor is effectively guaranteed a certain volume of work from a single client for an extended period start to look like employment.
Since April 2017 for the public sector and April 2021 for medium and large private sector clients, the responsibility for determining IR35 status shifted from the contractor to the client. Where a client is required to make the determination, they must issue a Status Determination Statement (SDS) to the contractor and the fee-payer (typically the agency). The client is liable for any NI and income tax if they are found to have made a careless or incorrect determination.
Small private sector clients remain outside this regime — contractors providing services to a small company (two of the three criteria: fewer than 50 employees, annual turnover below £10.2m, balance sheet below £5.1m) are still responsible for determining their own IR35 status and applying it through their own limited company.
The practical consequence is that many medium and large clients have adopted blanket inside-IR35 policies to eliminate their compliance risk. Some have moved away from engaging limited company contractors entirely. For contractors, this has reduced the universe of outside-IR35 engagements and increased the commercial importance of working with clients who conduct genuine, individual status assessments.
If a contract is inside IR35, income from that contract is treated as deemed employment income. The company receives the contract income but cannot pay dividends from it in the tax-efficient way. Instead, a deemed salary calculation is applied: the income is treated as if it were a salary after a 5% allowance (in some scenarios) for company expenses, and income tax and NI are applied at the employment rates.
For a contractor billing £350 per day over 220 days (£77,000 annual income), inside IR35 means approximately £77,000 is treated as deemed employment income. After applying basic salary deductions, the contractor pays income tax at 40% and NI at 8% on the higher-rate portion, plus the company pays employer NI at 15% on the total above the NI threshold. The combined NI and higher-rate income tax take can leave the contractor with approximately 55–60% of their gross income rather than the 70–75% typically achievable outside IR35.
The difference between inside and outside IR35 is often cited as the single biggest financial risk for limited company contractors. Getting an outside determination that is then reversed by HMRC can result in back-payment of NI and income tax for multiple years, plus interest and potentially penalties. Contractors who are genuinely on the boundary should take a formal assessment from a qualified IR35 specialist rather than relying on a self-assessment.
There is no single test, but substitution is usually the most powerful indicator. If you can genuinely send an equally qualified substitute and the client would accept them, that points strongly toward outside IR35. If the client requires you personally and you work under their day-to-day direction, IR35 likely applies.
The client (the end user of the services) makes the status determination and issues a Status Determination Statement. They are liable for NI and income tax if the determination is found to be careless. Small companies (meeting two of three small company criteria) are exempt and the contractor determines their own status.
Yes, but the tax advantages of the company largely disappear. The income is treated as deemed employment income, taxed at employment rates. The company can still exist and hold other outside-IR35 contracts, but the inside-IR35 contract must be correctly ring-fenced and the deemed employment calculation applied.
Yes. Exclusive, long-term engagements with a single client — particularly where the contractor works regular hours at the client's site — attract closer scrutiny. Working across multiple clients, on shorter engagements, with genuine substitution clauses and output-based deliverables all support an outside IR35 position.
The limited company tax calculator turns this guidance into a concrete estimate for corporation tax, dividends and personal take-home, based on 2026/27 HMRC rates.