Being inside IR35 means your contract falls in the off-payroll working rules and HMRC sees you as an employee for tax purposes. Being outside IR35 means your contract points towards self-employment, so you can operate tax efficiently.
Here's what you need to know about defining the outside and inside IR35 meaning when it comes to your contracts. You can also find out more about IR35 in general by reading our guide: what is IR35?
HMRC introduced the off-payroll working rules (IR35) in 2000 to make sure that contractors who would be employees if there was no intermediary pay broadly the same tax as employees.
That means that if a contract is inside IR35, you have to pay income tax and National Insurance Contributions just like employees do.
If a contract is outside IR35 it means HMRC sees you as 'genuinely' self-employed and you’re able to pay yourself in a tax-efficient way.
This could involve working on defined projects (rather than rolling contracts), actively marketing your business’s services, and working for more than one client.
To be outside IR35, your contract must reflect you and your client's actual working practices, so you aren’t caught out by HMRC.
Your contract is likely to include details of the services you’ll be providing, and when and where you’ll be working. But it won’t include demands from the client’s point of view, such as performance monitoring and appraisals.
If you offer services, rather than a contract for a service, then you're likely to fall outside of IR35 as you could send someone to do the work in your place, for example.
The rules are different depending on whether your client is in the public or private sector.
Public sector contractors – your end client is responsible for determining your IR35 status. That means they’ll use HMRC’s check employment status for tax tool (CEST), or an independent service, to work it out
Private sector contractors – you’re responsible for determining your IR35 status. But this is set to change from April 2021, when medium-sized and larger clients will be responsible for determining your IR35 status. The end-client, or the agency or third party who pays you, will deduct your tax and National Insurance contributions (smaller clients are exempt from the change)
A small end-client will fall under two or more of these requirements:
If your end-client is working out your status from April 2021, it needs to give you and the relevant parties (like recruiters) a Status Determination Statement (SDS), which explains whether IR35 applies to the contract.
End-clients need to show they've taken 'reasonable care' when working out your employment status – otherwise they could be responsible for getting things wrong.
It also needs to have a disagreement process you can use, to object to the decision. Your client needs to respond to your objection within 45 days, saying why it came to the decision, or updating its reasoning based on your objections. If it’s updating its decision, the client will need to change the SDS and give it to the relevant parties.
One way to work out whether a contract falls inside IR35 or outside IR35 is by using HMRC’s check employment status for tax tool.
To use the tool HMRC says you need:
HMRC's tool assumes there’s a contract in place, but it doesn’t take Mutuality of Obligation (MOO) into account. Mutuality of Obligation refers to the employer’s obligation to provide and pay for work and the contractor’s obligation to complete the work.
The fact that CEST doesn’t take a key piece of case law into account has been controversial.
MOO has been the deciding factor in a number of IR35 tribunals, which is just one reason it’s important to get independent advice too. There are lots of accountants who offer independent IR35 contract review services.
For its part, HMRC says CEST is accurate and it “will stand by the results, provided the information input is accurate and it is used in accordance with our guidance.”
HMRC can open an investigation into your IR35 status if it thinks an outside IR35 determination is wrong, so it’s important to keep accurate financial records and tax return information.
Make sure you have IR35 compliance in mind and actively discuss your status with your clients, who should also be preparing for the April 2021 changes if the status decision will now fall on them.
Our IR35 guide has more information on some of the tests HMRC might carry out to determine whether your contract is inside IR35 or outside IR35. See the section IR35 checklist: am I compliant?
The off-payroll working rules are complex. Please only use this article as a guide and if you’re unsure about whether a contract falls inside IR35 or outside IR35, get professional advice.
Your IR35 status has different implications for the tax you pay.
When you’re inside IR35 you:
Working out your deemed payment can be complex, so it’s best to speak to your accountant to make sure you get it right.
But if you’re a public sector contractor, your fee payer will work out and pay your tax and NICs on your behalf (this applies to those in the private sector from April 2021 too).
Even though HMRC sees you as an employee for tax purposes when you’re inside IR35, you might not be entitled to employee benefits like holiday pay and sick pay.
When you’re outside IR35 you:
If you’re outside IR35 you’ll be paid your fee and will be responsible for managing your business’s taxes as normal.
You can continue to run your limited company even when a contract is inside IR35. As mentioned, it means you need to make a ‘deemed payment’ to HMRC for the contracts caught inside the rules.
So it’s perfectly possible for professional contractors to have a mix of contracts both inside and outside of IR35 – but it means you’ll need to be organised and ask for professional advice, if you need it.
It’s important to negotiate carefully and make sure you’re clear from the beginning if you’re contracting outside IR35. You should:
An IR35 contract review service can be useful for checking that your contract accurately reflects your working practices. They’ll help make sure you’re compliant with the changes and determine if you fall inside IR35 or outside IR35.
Expert review services can also provide a pass/fail test result as well as a detailed report on how to be outside IR35, depending on how much you want to spend.
If you’re making changes to an existing agreement you should keep a record of decisions made for compliance. It’s a good idea to have your client sign a document –or a new contract – confirming these changes in case HMRC decide to investigate.
We create this content for general information purposes and it should not be taken as advice. Always take professional advice. Read our full disclaimer
22 June 2020 • 9-minute read
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