Answers · UK 2025/26

How does IR35 affect a contractor take-home pay?

If a contract is deemed 'inside IR35', the contractor is taxed broadly as an employee -- Income Tax and National Insurance are deducted from the contract income (often via an umbrella company or the client's payroll) -- significantly reducing take-home pay compared with an 'outside IR35' contract, where income can be extracted more tax-efficiently through a limited company using a mix of salary and dividends.

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IR35 status is one of the single biggest factors determining a contractor's actual take-home pay, and since 2021, most medium and large private sector clients (not the contractor) are responsible for determining a contract's status, significantly changing the contracting landscape. **What IR35 is actually testing** IR35 rules exist to determine whether a contractor working through their own limited company (or as a self-employed individual) is genuinely operating as an independent business, or whether the working arrangement is functionally equivalent to being an employee of the client -- factors considered include control over how/when/where work is done, whether the contractor can send a substitute, and mutuality of obligation between contractor and client. **Inside IR35: taxed like employment** If a contract is deemed inside IR35, the fee payer (either the client directly, or an agency/umbrella company in the chain) must deduct Income Tax and National Insurance from the contract payments before they reach the contractor, broadly as if the contractor were an employee -- this means the contractor loses the tax efficiency benefits of extracting income through dividends from their own limited company. **Outside IR35: genuine business tax treatment** If a contract is deemed outside IR35, the contractor's limited company can pay Corporation Tax on profits and then extract income via a combination of a modest salary (using the tax-free Personal Allowance and NI thresholds efficiently) and dividends (taxed at the lower dividend tax rates rather than full Income Tax and NI) -- this combination is typically significantly more tax-efficient than employment-style taxation. **Who determines status since 2021** For contracts with medium or large private sector clients (and all public sector clients), the CLIENT is responsible for determining IR35 status and issuing a Status Determination Statement -- small private sector clients are exempt from this responsibility, in which case the contractor's own limited company remains responsible for self-assessing status, as was the case for all contracts before 2021. **Worked example -- take-home comparison** A contractor earning £100,000 gross through their limited company, taxed OUTSIDE IR35 (Corporation Tax then salary + dividends), might retain roughly 70-75% of gross income after all taxes, depending on their specific salary/dividend split and expenses. The same £100,000 gross, taxed INSIDE IR35 (as if employed, with Income Tax and NI deducted at source), would typically retain a noticeably lower percentage, closer to what a genuinely employed person on an equivalent salary would take home, without the dividend tax efficiency. **Umbrella companies and inside-IR35 contracts** Many inside-IR35 contractors work through an umbrella company, which employs the contractor and handles PAYE deductions directly, typically taking a margin/fee from the contract rate for this service -- umbrella company take-home is broadly comparable to standard employment take-home pay, minus the umbrella company's fee. **Practical tip** Always get clarity on a contract's IR35 status before accepting it, and if uncertain, use the Contractor Take-Home Pay calculator to model both inside and outside IR35 scenarios at your specific day rate, since the difference in net income between the two statuses can be substantial and should factor significantly into whether a given day rate is genuinely attractive.