IR35 Explained: What Every UK Contractor Needs to Know

If you work through a limited company or as a contractor in the UK, IR35 is the one piece of tax legislation you can't afford to ignore. Get it wrong and HMRC can treat your income as employment income — and send you a hefty bill for unpaid tax and National Insurance.

This guide explains IR35 in plain English: what it is, how it applies to you, and what it means for how you invoice your clients.

What is IR35?

IR35 is a set of tax rules introduced in April 2000 to tackle "disguised employment". HMRC's concern was that some contractors were doing the same job as an employee but paying themselves through a limited company to reduce their tax bill — without any of the risks or obligations that genuine self-employment involves.

If HMRC decides your engagement falls inside IR35, your income from that contract is treated as if it were employment income. That means you pay income tax and National Insurance (both employee and employer) on the majority of what you earn, rather than taking a salary + dividends combination.

Inside vs outside IR35: what's the difference?

Every contract you take on is either inside or outside IR35:

• Outside IR35 — you're genuinely self-employed for that engagement. You invoice through your limited company, pay corporation tax on profits, and take a salary + dividends as normal.
• Inside IR35 — the engagement looks like employment to HMRC. You must pay a "deemed payment" of income tax and National Insurance on the contract income, as if you were an employee.

Being inside IR35 doesn't mean you're doing anything wrong — it simply reflects the nature of the working relationship. Many contractors work both inside and outside IR35 on different contracts simultaneously.

How does HMRC decide?

HMRC looks at the substance of the working relationship, not the label on the contract. Three tests carry the most weight:

1. Control

Does the client control how, when, and where you do the work — or do you decide? A genuine contractor sets their own hours, chooses their methods, and can work from wherever they like. High levels of client control push you inside IR35.

2. Substitution

Could you send a qualified substitute to do the work instead of you personally? If the client insists on you specifically, that looks like employment. A genuine contractor can send someone else — and the contract should reflect this.

3. Mutuality of obligation

Is the client obliged to offer you work, and are you obliged to accept it? Contractors should be free to decline work and move on when a project ends — with no expectation of ongoing engagement.

Other factors HMRC weighs include: financial risk, whether you provide your own equipment, and whether you work for multiple clients or exclusively for one.

The off-payroll working rules: 2017 and 2021 reforms

IR35 was originally self-assessed by contractors. The rules changed significantly in recent years:

• April 2017 — Public sector engagements: the client became responsible for determining IR35 status, not the contractor.
• April 2021 — This shifted to the private sector too, for medium and large businesses. Small businesses (meeting at least two of: under 50 employees, under £10.2m turnover, under £5.1m balance sheet) are exempt — the contractor still determines their own status.

In practice: if you're contracting with a medium or large company, they will issue you a Status Determination Statement (SDS) telling you whether they consider the role inside or outside IR35. You have the right to dispute this.

HMRC's CEST tool

HMRC provides a free online tool called Check Employment Status for Tax (CEST) to help determine IR35 status. HMRC has said it will stand by CEST results — provided the information entered is accurate and complete. CEST is a useful starting point, but many contractors also commission an independent IR35 review from a specialist adviser for higher-value or longer-term contracts.

What IR35 means for your invoices

Your IR35 status doesn't change how you invoice — you still issue invoices through your limited company. What changes is the tax treatment of the income. Either way, your invoices should include:

• Your company name and registered address
• Your company registration number
• Your VAT number (if VAT registered)
• A unique invoice number
• The client's name and address
• A clear description of the services provided and the period covered
• Your day rate or project fee, VAT (if applicable), and total due
• Payment terms and bank details

Invoa generates HMRC-compliant invoices with all of these fields built in — including VAT calculation and your company details on every invoice.

IR35 and VAT

IR35 and VAT are separate. If your limited company is VAT registered, you charge VAT on your invoices regardless of your IR35 status — VAT registration is based on your turnover, not your employment status.

Sole traders and IR35

IR35 technically applies to contractors working through a Personal Service Company (PSC) — typically a one-person limited company. If you're a sole trader, you're already taxed as an individual under income tax and Class 4 National Insurance. HMRC can still challenge a sole trader's employment status, but under different rules than IR35.

Key takeaways

• IR35 determines whether a contract engagement is treated as employment for tax purposes.
• The three main tests are: control, substitution, and mutuality of obligation.
• Since April 2021, medium and large private sector clients determine IR35 status — not the contractor.
• Always request a Status Determination Statement from your client, and dispute it if you disagree.
• Your invoicing process doesn't change based on IR35 status — but tax treatment of the income does.
• If in doubt, speak to a contractor-specialist accountant before signing a new contract.

This article is for general information only and does not constitute tax or legal advice. Speak to a qualified accountant or tax adviser for guidance specific to your situation.