Most IR35 advice falls into two camps: vague scaremongering, or folklore about a 25% pay cut that stopped being true years ago. Neither helps you decide whether to accept an inside-IR35 contract or push for an outside one. This guide does the arithmetic with the actual 2026/27 rates, and the answer is probably not what you expect.
What IR35 actually is
IR35, properly the intermediaries legislation, asks one question: if you had contracted directly with the client instead of through your limited company, would you have been an employee for tax purposes? If yes, you are "inside IR35" and the engagement should be taxed roughly like employment. If no, you are "outside", and you can pay yourself through a low salary plus dividends.
Two crucial points. First, IR35 is about tax status, not employment rights. Being inside IR35 gives you no holiday pay, no sick pay and no redundancy rights. You get the tax bill of an employee and the security of a contractor. Second, status attaches to the engagement, not to you. You can be outside on one contract and inside on the next, running concurrently.
Who decides: Chapter 8 versus Chapter 10
Which rules apply depends entirely on the size of your end client.
Chapter 10 (the off-payroll rules, from April 2021). If your end client is a public authority, or a medium or large private-sector business, the client decides your status and must issue a Status Determination Statement (SDS). The "fee-payer" (usually the agency) then operates PAYE. You have no say and no liability, but also no control.
Chapter 8 (the original IR35, from 2000). If your end client is a small company, or is wholly overseas with no UK presence, the old rules survive. You decide your own status, and your company carries the liability if you get it wrong.
A client is small if it meets two of three tests. HMRC's ESM10006A confirms that the Companies House thresholds rose on 6 April 2025 (turnover to £15m, balance sheet to £7.5m, employees unchanged at 50), but because company size is judged on filed prior-year accounts, the new, more generous thresholds will not actually change anyone's off-payroll position until 2027/28 at the earliest. For 2026/27, assume the old thresholds still bite.
The three tests that decide status
There is no statutory definition. Status comes from case law, ultimately Ready Mixed Concrete v MPNI (1968), refined by the Supreme Court in PGMOL v HMRC (2024). Three factors dominate.
Control. Not whether you are told what to deliver, but whether the client can direct how, when and where you do it. A client saying "build us a payments API to this spec by March" is buying a result. A client putting you on a shift rota, assigning you tickets in a daily standup and moving you onto unrelated work is exercising employment-style control.
Substitution. A genuine, unfettered right to send a qualified replacement at your own cost is close to fatal to employment status. The trap is that most substitution clauses are worthless in practice: if the client can reject any substitute for any reason, or the clause has never been usable, tribunals treat it as a sham. An exercised substitution is worth more than ten clauses.
Mutuality of obligation (MOO). After PGMOL, the bar is low: the mere fact that the client must pay for work done and you must do it creates enough MOO to found a contract of service. So MOO alone will not save you. What still helps is the absence of an ongoing obligation: no guarantee of further work when the deliverable is done, and no obligation on you to accept it.
Beyond those, HMRC weighs financial risk (fixed-price work, rectifying defects at your own cost, your own professional indemnity insurance), whether you are "part and parcel" of the organisation, and whether you use your own equipment. Run your contract through HMRC's CEST tool and keep the printed output: HMRC will stand by the result if your answers were accurate.
The 2026/27 rates that drive the gap
Everything downstream depends on these numbers. All are for England, Wales and Northern Ireland in the tax year 6 April 2026 to 5 April 2027 (Scottish income tax bands differ, but NICs, corporation tax and dividend tax do not).
| Item | 2026/27 figure | Source |
|---|---|---|
| Personal allowance | £12,570 (withdrawn £1 per £2 above £100,000, gone at £125,140) | gov.uk |
| Basic rate income tax | 20% on the first £37,700 of taxable income | gov.uk |
| Higher rate income tax | 40% up to £125,140 | gov.uk |
| Additional rate income tax | 45% above £125,140 | gov.uk |
| Employee NIC (Class 1) | 8% between £12,570 and £50,270, then 2% | gov.uk |
| Employer NIC (Class 1 secondary) | 15% above a £5,000 secondary threshold | gov.uk |
| Employment Allowance | £10,500, but not available to a single-director company with no other employee | NIM06545 |
| Dividend allowance | £500 | gov.uk |
| Dividend tax: ordinary / upper / additional | 10.75% / 35.75% / 39.35% (ordinary and upper both rose 2 points in April 2026) | gov.uk |
| Corporation tax | 19% to £50,000 profit, 25% from £250,000, marginal relief fraction 3/200 in between (a 26.5% effective marginal rate) | gov.uk |
Two of these do most of the damage to the outside-IR35 case: the dividend rate rise in April 2026, and the employer NIC secondary threshold sitting at just £5,000, which means even a modest director's salary now attracts employer NIC.
Worked example: £450 a day, 220 billable days
Assume £99,000 of contract income, £2,000 of genuine business costs (accountant, professional indemnity insurance, software), and a sole-director company. The critical commercial assumption on the inside side is this: legally the fee-payer owes employer NIC on top of your deemed payment, but in practice agencies quote an "assignment rate" and employer NIC comes out of it. So the same £99,000 budget has to stretch further inside.
| Step | Outside IR35 (Ltd, salary + dividends) | Inside IR35 (deemed payment via fee-payer) |
|---|---|---|
| Contract / assignment value | £99,000 | £99,000 |
| Employer NIC | £1,135.50 (15% of £12,570 less £5,000) | £12,260.87 (15% of gross less £5,000) |
| Business expenses | £2,000 | £0 (not deductible) |
| Director's salary / deemed gross pay | £12,570 | £86,739.13 |
| Company profit before tax | £83,294.50 | n/a |
| Corporation tax | £18,323.04 (19% on first £50k, 26.5% above) | n/a |
| Dividend declared | £64,971.46 | n/a |
| Income tax | £13,748.55 (dividend tax) | £22,127.65 (PAYE) |
| Employee NIC | £0 | £3,745.38 |
| Net in your pocket | £63,792.91 | £60,866.10 |
| Effective total tax rate | 34.2% | 38.5% |
The gap is £2,926.81 a year, about 4.6%. Not the 25% of contractor forum legend. Salary is set at £12,570 because it is still the optimum: £1 of company money routed through salary within the personal allowance yields 87p in your hand (even after 15% employer NIC), versus 72p routed through corporation tax and an ordinary-rate dividend.
Run your own numbers on the UK IR35 calculator, and compare drawdown strategies with the contractor take-home calculator.
The gap at other day rates
| Day rate (220 days) | Outside net | Inside net | Gap | Gap as % of outside |
|---|---|---|---|---|
| £300 (£66,000) | £48,209 | £44,223 | £3,986 | 8.3% |
| £450 (£99,000) | £63,793 | £60,866 | £2,927 | 4.6% |
| £650 (£143,000) | £82,348 | £78,057 | £4,291 | 5.2% |
| £800 (£176,000) | £94,175 | £93,245 | £930 | 1.0% |
The gap is not a straight line, because the £100,000 personal allowance taper hits the two structures at different points. But the direction of travel is clear: after the April 2026 dividend rise, the outside-IR35 premium at a typical mid-market day rate is roughly one month's net pay, not one quarter of your income.
Why the outside premium is smaller than you think
The maths becomes obvious once you look at the marginal pound of income, not the average.
In the basic-rate band, £1 of company money taken as a dividend costs 19% corporation tax and then 10.75% dividend tax, leaving 72.3p. Inside IR35, the same £1 of assignment rate first funds 15% employer NIC, then 20% tax and 8% employee NIC, leaving 62.6p. Outside wins by nearly 10p.
In the higher-rate band, that flips. Outside, £1 of profit meets a 26.5% marginal corporation tax rate and then 35.75% dividend tax, leaving 47.2p. Inside, it funds employer NIC, then 40% tax and 2% employee NIC, leaving 50.4p. Inside IR35 is now marginally better on the top slice of income.
That is the single most under-reported consequence of the 2026 dividend increase. The outside-IR35 advantage now lives almost entirely in the tax-free salary and the basic-rate dividend band. Above about £50,000 of income, the structures converge and then cross over.
The practical implication: an outside contractor earning well above the higher-rate threshold should not be draining the company to the top of the dividend band. Employer pension contributions (corporation tax deductible, no NIC, no dividend tax), retaining profit and drawing it in a lean year, or eventually winding up and paying Business Asset Disposal Relief at 18% from 6 April 2026 are all now worth more than the dividend route. Those flexibilities, not the headline tax rate, are the real value of being outside.
The deemed payment (when your client is small)
Under Chapter 8, nobody hands you a PAYE payslip. Your company works out a deemed employment payment at the end of the tax year and puts it through payroll. HMRC's nine-step calculation runs like this:
- Take the income from the relevant engagements and deduct a flat 5% for general running costs (no receipts needed).
- Add any payments or benefits the client gave the worker directly.
- Deduct expenses the company paid that an employee could have claimed.
- Deduct capital allowances on qualifying plant and machinery.
- Deduct employer pension contributions made for the worker.
- Deduct Class 1 and Class 1A NICs already paid.
- Deduct salary and benefits already taxed as employment income.
- Gross down the remainder to strip out the employer NIC due on it.
- Report and pay PAYE and NIC on the result.
The deemed payment is treated as made on 5 April, so the tax and NIC fall due by 22 April (electronic payment). It is a deductible expense for corporation tax, so it is not taxed twice. That 5% flat deduction is worth having: on £99,000 it removes £4,950 from the charge before you start. It is only available under Chapter 8. If your client is medium or large and applies Chapter 10, there is no 5% allowance at all.
How to evidence outside status
Evidence beats paperwork. In descending order of usefulness:
- Actually substitute, once. Send a qualified subcontractor for even a week, pay them from your company, and keep the invoice. Nothing else comes close.
- Contract for a deliverable, not a period. A schedule of work with milestones and acceptance criteria beats "provide services as directed for 6 months".
- Take real financial risk. Fix a price for a defined scope. Agree in writing to rectify defects at your own cost. Carry your own professional indemnity cover.
- Stay outside the org chart. No line manager, no performance review, no company laptop if avoidable, no staff social events, no internal training, no email signature with the client's branding.
- Keep a confirmation of arrangements. A short document signed by the person who actually supervises the work, confirming how things run in practice. This beats the written contract if HMRC challenges you, because tribunals look at reality.
- Save the CEST output with the date and your answers, plus contemporaneous notes on why you answered as you did.
- Run more than one client. Not decisive on its own, but a business with several concurrent clients is a much harder target.
If you disagree with the client's determination
Under Chapter 10 you have a statutory right to challenge the SDS. Write to the client setting out your reasons by reference to the employment status indicators (control, substitution, MOO, financial risk). A bare "I disagree" can be rejected.
The client then has 45 calendar days to consider your representations and respond with either a new SDS or reasons for keeping the old one. Your tax treatment stays unchanged while they consider it. Per ESM10015, if the client misses the 45-day deadline, it becomes the deemed employer and picks up the PAYE, NIC and Apprenticeship Levy liability itself until it responds. That is real leverage, and worth citing in your letter.
Note that clients must take "reasonable care": a blanket determination applied to every contractor without considering individual engagements is non-compliant, and HMRC says so explicitly. If you are caught by a blanket ban, that is a commercial decision you cannot appeal, but a blanket determination is a different thing and can be challenged.
One reassurance if the client got it wrong in the other direction: since 6 April 2024 HMRC must set off tax and NIC you and your company already paid against the deemed employer's PAYE bill. That removed the old double-taxation problem, and it is one reason clients have become slightly braver about outside determinations.