IR35 in 2026: What UK Businesses Need to Know About Off-Payroll Working

What IR35 is and why it matters#

IR35 is HMRC's mechanism for ensuring that workers who provide services through their own limited company (Personal Service Company or PSC) but who are functionally working as employees of the end client pay employment taxes rather than the lower taxes available through a PSC. The rules have been reformed twice — in the public sector in 2017 and the private sector in 2021. Since April 2021, medium and large private sector businesses are responsible for determining the employment status of contractors they engage through PSCs — and for operating PAYE if the contractor is determined to be inside IR35.

Who is responsible for IR35 determination#

The responsibility for IR35 status determination depends on the size of the engaging business. Small businesses (meeting at least two of: fewer than 50 employees, turnover below £10.2 million, balance sheet below £5.1 million) — the contractor's PSC remains responsible for the determination. Medium and large businesses (not qualifying as small) — the end client (the business engaging the contractor) is responsible for the determination and must provide a Status Determination Statement (SDS) to the contractor and the fee-payer. The SDS must state whether the contractor is inside or outside IR35 and give reasons.

The key employment status tests#

Employment status for IR35 purposes is determined by the overall nature of the working relationship, with three factors carrying the most weight. Substitution: can the contractor send a substitute to perform the work without the client's approval? If yes, this points strongly outside IR35 — a genuine self-employed contractor can substitute; an employee cannot. Control: does the client control when, where, and how the work is performed? High client control points inside IR35. Mutuality of obligation: is the client obliged to offer work and the contractor obliged to accept? If there is an ongoing obligation to offer and accept work, this points inside IR35. HMRC's CEST tool provides an indicative status determination based on responses to these and other questions — though its output is not binding.

The financial consequences of getting it wrong#

If HMRC determines that a contractor should have been treated as inside IR35 but was not, the consequences fall on the business (for medium and large businesses since 2021). The business is liable for the PAYE income tax and National Insurance that should have been deducted, plus the employer NIC that should have been paid, plus interest on the late payment, plus potentially a penalty of 15-30% of the unpaid tax if the error is found to be careless. For a contractor on £100,000 per year who should have been inside IR35 for 3 years, the potential retrospective liability could exceed £100,000 — a significant risk for any business.

Practical compliance steps for businesses engaging contractors#

Implement a consistent IR35 determination process: use HMRC's CEST tool as a starting point for every new contractor engagement, document the factors that support the determination (substitution rights, control arrangements, absence of mutual obligation), issue a Status Determination Statement to the contractor and fee-payer. Review contracts to ensure they reflect the genuine nature of the relationship — a contract that specifies hours, work location, and prohibits substitution will likely be inside IR35 regardless of what the CEST tool indicates. Where the status is genuinely uncertain, take specialist employment tax advice before the engagement begins rather than after HMRC raises a query.