If you've just received your first IR35 determination from a client or agency, you're probably wondering what it actually means for your take-home pay and whether you can do anything about it. This guide is written for you.
IR35 is the common name for the off-payroll working rules that HMRC uses to decide whether a contractor should be taxed like an employee. Despite what you may have heard, IR35 is not a tax — it is a status test. Once that status is determined, it changes how your income is taxed, which directly affects how much you keep after all deductions.
What Is IR35 in Simple Terms?
When you work through your own limited company (often called a personal service company, or PSC), you have significant control over how you draw income. Outside IR35, your company pays you a small salary and the rest as dividends, which can be more tax-efficient because dividends are not subject to National Insurance contributions.
IR35 exists to prevent what HMRC calls "disguised employment" — situations where a contractor works like an employee (same manager, same desk, same hours, same holiday booking process) but routes their pay through a limited company to pay less tax. The rules aim to put contractors who are effectively employees on the same tax footing as permanent staff.
Key point: IR35 is not about whether your contract is "legal" or "compliant." It is about your working practices — what you actually do day to day — and whether those practices match the description of a genuinely self-employed person or an employee.
Inside IR35 vs Outside IR35
These are the two possible outcomes of an IR35 determination, and they produce very different take-home figures.
Outside IR35 (Genuine Contractor)
Outside IR35 means HMRC agrees you are genuinely self-employed. Your limited company pays you via a small salary (typically at or just above the NI threshold) and dividends from company profits. Corporation tax is paid on company profits, and you pay dividend tax personally. This structure tends to produce the highest take-home pay because National Insurance is minimised. For the 2026/27 tax year, the dividend allowance is £500, and dividend tax rates are 8.75% (basic rate), 33.75% (higher rate), and 39.35% (additional rate).
Inside IR35 (Deemed Employee)
Inside IR35 means HMRC treats you as a "deemed employee" for tax purposes. Your contract income is subject to the same deductions as a permanent employee: income tax via PAYE, employee National Insurance (8% on earnings between £12,570 and £50,270, then 2% above), and employer National Insurance (15% on earnings above the secondary threshold of £5,000/year). The employer NI is deducted from your contract value before you receive your pay. This typically reduces your take-home by 20–30% compared to an outside IR35 engagement.
You can see the exact difference for your specific day rate using our inside IR35 calculator and outside IR35 calculator.
The Three Key Status Factors HMRC Uses
HMRC (and the engager, under the 2021 off-payroll rules for medium and large clients) considers a range of factors to determine IR35 status. While no single factor is decisive, three are given the most weight:
Control
Does the client have the right to control what you do, where you do it, and when you do it? A genuine contractor retains significant control over their schedule and methods. If the client can dictate your hours, supervise your work closely, or restrict how you deliver the work, that points towards inside IR35.
Substitution
Can you send a suitably qualified substitute to do the work if you are unavailable? A genuine contractor has an unfettered right of substitution — the ability to send someone else in their place. If the contract requires you to perform the work personally (or the client must approve any substitute), that is a strong indicator of employment.
Mutuality of Obligation
Is the client obliged to offer you work, and are you obliged to accept it? Genuine contractors work on a project-by-project basis with no ongoing obligation beyond the current assignment. If the client is expected to keep providing work and you are expected to keep accepting it, HMRC sees that as an employment relationship.
Other factors include financial risk (do you bear any financial risk, such as rectifying faulty work at your own cost?), equipment (do you provide your own tools and equipment?), part-and-parcel (are you integrated into the client's organisation, attending team meetings, performance reviews, and social events?), and exclusivity (are you free to work for other clients simultaneously?).
How the Deemed Employment Calculation Works
When a contract is determined inside IR35, the engager (or fee-payer, typically the agency) must apply the deemed employment payment calculation. This works as follows:
- Start with the gross contract income — the total payments received for the contract during the tax year.
- Deduct allowable expenses — legitimate business expenses that would not be available to an employee (e.g., specialist software, travel to temporary workplaces). Note that since 2016, the "5% allowance" for general expenses was abolished for most contractors.
- Deduct employer NI — calculated on the remaining amount. The engager deducts employer NI from the contract value before paying you.
- The remainder is your "deemed direct" income — this is treated as employment income and taxed through PAYE, attracting income tax and employee NI.
- Your limited company receives the net amount — after all deductions, the remaining funds are paid to your company as a net payment, which can still be drawn as dividends (but is also subject to corporation tax).
In practice, the calculation means your contract value is eroded at each stage. A £500/day outside IR35 contract might net you around £85,000 in take-home pay on a 46-week year; the same contract inside IR35 would net roughly £63,000 — a difference of over £22,000.
How IR35 Affects Your Take-Home Pay
The biggest impact of an inside IR35 determination is that you lose the ability to draw income as dividends (which are free from NI). Instead, your entire contract income flows through PAYE, and employer NI (15%) is consumed before you see any of it. For a typical contractor earning £500/day over 46 weeks (gross annual income of £115,000), the difference is stark:
- Outside IR35: after corporation tax, salary, dividend tax, and pension contributions, you take home approximately £75,000–80,000.
- Inside IR35: after employer NI, income tax, and employee NI, you take home approximately £60,000–65,000.
That is a gap of roughly £15,000 per year — which is why rate negotiation is so important when your contract moves inside IR35. Many contractors negotiate a rate uplift to compensate. Our IR35 rate uplift calculator shows you exactly what day rate you need to match your outside IR35 take-home pay.
Who Makes the IR35 Decision?
The answer depends on your client's size:
- Medium and large clients (meeting two of: turnover above £10.2M, balance sheet above £5.1M, 50+ employees) are responsible for determining IR35 status under the off-payroll working rules introduced in 2021. They must issue a Status Determination Statement (SDS) and pass it down the supply chain.
- Small clients (not meeting the above thresholds) do not have to make the determination — the responsibility falls to the contractor's own limited company.
- Public sector: since 2017, public authorities have been responsible for the determination.
If you disagree with the determination, you can challenge it through the client's Status Determination Disagreement process (they are required to respond within 45 days), and ultimately through HMRC's status dispute process.
Can You Insure Against an HMRC Investigation?
Yes — IR35 insurance policies are widely available through contractor accountants and specialist providers. These policies typically cover the cost of HMRC enquiries and legal representation, including any resulting tax liability. However, insurance does not prevent HMRC from investigating you, and some policies exclude cover if your working practices clearly fall inside IR35.
Practical Steps After Your First IR35 Determination
- Check the determination against your actual working practices. If your contract says "outside" but you take direction from a line manager, attend daily stand-ups, use the client's equipment, and are expected to be available 9–5, that is a red flag.
- Use a calculator to understand the numbers. Run your day rate through the inside IR35 calculator and compare with the outside IR35 calculator to see the exact difference in take-home pay.
- Negotiate a rate uplift. Inside IR35 contracts typically command a higher day rate. Use our rate uplift calculator to find your target rate.
- Speak to an accountant. A specialist contractor accountant can review your contract and working practices, advise on whether the determination is correct, and help you structure your affairs.
- Consider your options. If the rate uplift does not compensate for the tax difference, consider whether an umbrella company or a fixed-term employee role works better for the assignment.
IR35 and Umbrella Companies
An umbrella company is often presented as a "safe" alternative to operating through your own limited company when you are inside IR35. The umbrella company employs you on behalf of the client, handles payroll, tax, NI, and pension deductions, and charges a margin (typically £20–30 per week).
Although an umbrella arrangement automatically passes HMRC scrutiny (you are a deemed employee of the umbrella, so there is no IR35 question), the net take-home pay is usually even lower than operating inside IR35 through your own limited company, because the umbrella adds its margin and has fewer expense options. You can compare all three scenarios side by side using our umbrella vs ltd calculator.
See the Numbers for Yourself
Enter your day rate and see a side-by-side comparison of outside IR35, inside IR35, and umbrella take-home pay — with live recalculation and every deduction explained.
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