UK IR35 & Personal Service Company Guide 2026

What Is IR35?

IR35 takes its name from the Inland Revenue press release in 1999 that announced the legislation (IR 35). Its purpose is to catch contractors who operate through a personal service company (PSC) — typically a one-person limited company — but whose working arrangements are economically equivalent to employment. HMRC calls this "disguised employment."

Without IR35, a contractor could route income through a limited company, pay themselves a low salary and draw the rest as dividends — avoiding employer's and employee's National Insurance (combined 23% in 2026/27) and accessing the lower dividend tax rates. IR35 closes this gap for engagements that resemble employment in substance.

The Three-Stage Employment Status Test

IR35 status is determined by the same common law tests used to distinguish employment from self-employment. Three factors carry the greatest weight:

1. Substitution — Can You Send Someone Else?

An employee must personally perform the contracted services. A genuinely self-employed contractor can, in principle, send a qualified substitute. The substitution right must be genuine and unfettered — the client cannot refuse a competent substitute just because they prefer the original contractor. Clauses in contracts that grant a theoretical right of substitution but are never exercised in practice carry little weight. Evidence of actual substitution in previous engagements is extremely persuasive.

2. Control — Who Decides How, Where and When?

A key indicator of employment is the client controlling the method, time and place of work. A self-employed contractor determines how the outcome is delivered — they agree to produce a result, not to follow instructions on the method. In practice, most IT contractors working to a specification are given some degree of freedom over method, but they may have less freedom over location (client premises) and hours (core hours). The weight of each control element must be assessed overall.

3. Mutuality of Obligation — Must Offer, Must Accept?

In a true employment relationship, the employer must offer work and the employee must accept it. A self-employed contractor has no obligation to accept further work from the client, and the client has no obligation to offer it. Where a contractor is effectively expected to accept any task assigned between engagements, or where there is an expectation of continued work, mutuality of obligation is present — pointing toward employment. This factor is notably absent from HMRC's CEST tool, which is a known limitation.

Other Relevant Factors

Beyond the three main tests, tribunals also consider: whether the contractor provides their own equipment; whether they bear financial risk (e.g. fixed-price projects); whether they can work for multiple clients simultaneously; whether they are integrated into the client's organisation (attending company events, appearing on org charts, holding management responsibility); and the length and exclusivity of the engagement. No single factor is determinative — IR35 status is assessed holistically.

The April 2021 Reform: Who Determines Status Now?

Before April 2021, contractors in the private sector self-determined their IR35 status through their PSC. Since April 2021, the responsibility shifted to the end-client for medium and large private-sector engagements (mirroring the public-sector reform of April 2017).

A "small" private-sector client meets two out of three criteria: annual turnover below £10.2 million; balance sheet below £5.1 million; fewer than 50 employees. Groups of companies are assessed on aggregate size.

Status Determination Statement (SDS)

When a medium/large private-sector client determines IR35 status, they must issue a Status Determination Statement to the contractor and any agency in the supply chain. The SDS must include the determination (inside or outside IR35) and the reasons for it. A client that fails to issue a valid SDS becomes the deemed employer — taking on the PAYE and NI liability directly.

Inside IR35: What Happens Financially?

When a contract is inside IR35, the fee payer (typically the agency or, if direct, the client) must operate PAYE and deduct employee NI from the contractor's pay. Employer's NI at 15% is added on top of the contractor's rate. The contractor's PSC receives the net amount after these deductions.

Umbrella Company vs Inside-IR35 Limited Company

For contractors working inside IR35, the two most common operating structures are an umbrella company or their own PSC under PAYE. The effective tax outcome is very similar in both cases, because the employment taxes are applied before any income reaches the company or contractor. The main practical differences are:

• Umbrella: simpler administration; umbrella handles PAYE, payslips, auto-enrolment; usually charges £15–30/month; contractor is employed by the umbrella.
• Inside-IR35 Ltd: contractor retains their company; more admin; small corporation tax efficiency possible on remaining profit; retains company for outside-IR35 contracts.

If you are exclusively working inside IR35 with no outside-IR35 engagements, an umbrella company is typically the more practical and cost-effective option. If you have a mix of contracts, maintaining your PSC gives more flexibility.

Challenging an Inside Determination

If you believe a client's inside-IR35 SDS is wrong, you can formally dispute it. The client must respond within 45 days with either a revised SDS or a reasoned explanation. If still unsatisfied, the CEST tool can be used to generate independent evidence, and an IR35 specialist solicitor or accountant can review the contract and working practices against the employment status tests.

An IR35 contract review by a specialist typically costs £250–500 and provides a written opinion that can be used as evidence if the matter escalates to First-Tier Tribunal.