Understanding IR35: What Contractors and Freelancers Need to Know

2. Right of Substitution (The “Who” of the Job)

Does the contract specifically call for personal service from you, or is it for a service that your business could provide through any qualified individual?

• Outside IR35: You must have a genuine, free right to send a substitute to perform the work in your place, at your cost, without excessive client approval. This demonstrates your company, the PSC, is the one contracted, not you as an individual.

• Inside IR35: The client is in agreement that you are the only one who can complete the task, or the substitution clause is a “sham” that requires the replacement to undergo a thorough, employee-like screening procedure.

3. Mutuality of Obligation (MOO) (The “Expectation” of Work)

This examines the continuing commitment between the parties.

• Outside of IR35: The agreement is for a specific project. There is no requirement that the contractor accept future work or that the client offer it. The relationship is limited and solely transactional.

• Inside IR35: There is an implied, continuous expectation of work, often indicated by long-term contracts, retainers, or an unspoken assurance of contract renewal.

Secondary Factors: Operating As A Business

Additionally, HMRC considers the following factors to determine if you are “in business on your own account”:

• Financial Risk: Are you financially liable for correcting poor work? Do you bear the risk of project failure?

• Equipment: Do you use your own significant equipment, or are you provided with a client laptop, phone, and software licenses?

• Integration: Are you included in staff meetings, team social events, or the client’s internal structures (e.g., employee ID, staff benefits)? Less integration points toward Outside IR35.

Compliance and Your Rights

The Status Determination Statement (SDS)

A Status Determination Statement (SDS) is required for contracts with medium-sized and larger clients. This is a legally mandated document that:

1. Declares whether the IR35 is inside or outside.

2. Provides the reasons for that decision based on the legal tests.

3. Must demonstrate the client has taken ‘reasonable care’ in its assessment.

Watch Out for Blanket Assessments: Declaring that “all contractors are Inside IR35” without first conducting an individual review is a breach of reasonable care and renders the SDS void. A general conclusion should never be accepted.

Your Right to Disagreement

You have the legal right to contest a client’s SDS if you don’t agree with it:

• Submit a Written Challenge: You must inform the client in writing why you believe the determination is incorrect, using evidence of your actual working practices to contradict their reasoning.

• Client Response Deadline: The client has 45 calendar days to respond, either by upholding the original SDS with better reasoning or by issuing a new SDS changing the determination.

• Liability Shift: If the client fails to respond within 45 days, the liability for tax and NICs for that contract automatically shifts from the fee-payer/agency back to the end-client.

Essential Action Plan for Contractors

You need to be proactive and defendable in order to work in the IR35 environment safely and effectively:

1. Vet and Review Every Contract

• Client Size Check: Always confirm your client’s size. If they are ‘small’, you are responsible.

• Contract Review: Never sign a contract without a specialist IR35 review. The language must support your Outside IR35 status.

• Demand a Clear SDS: For medium/large clients, review the SDS against your working reality immediately.

2. Operational Due Diligence

• Document Practice: Always document and enforce working practices that support self-employment (e.g., control, use of your own equipment).

• Business Presence: Maintain a professional website, business insurance, and market yourself as a business to multiple clients.

• Substitution: If your contract allows it, ensure you can practically fulfil the right of substitution (e.g., have a substitute ready).

3. Protect Your Finances

• Professional Insurance: Secure Tax Enquiry Insurance (often called IR35 insurance). This is essential to cover the high costs of legal and accounting fees should HMRC launch an investigation into your PSC.

• Inside IR35 Planning: If you take an Inside IR35 role, ensure the fee-payer is correctly operating PAYE, or, if you’re working for a small client, that your PSC correctly calculates the complex “deemed payment” and pays the appropriate tax. Learn how we can assist with managing your limited company payroll and tax compliance.

IR35 is more than just a piece of tax law; it’s a framework that requires every UK contractor to demonstrate they are a genuine, independent business. The market for genuine self-employment has not been destroyed by the reforms, despite the fact that they have changed responsibility and added complexity.

In today’s contracting environment, proactive compliance, thorough documentation, and professional guidance are essential for success.

Don’t put your financial security at risk. By understanding the three pillars of IR35 and taking the recommended defensive steps, you can confidently navigate the OPWR and focus on delivering excellent service as a secure, independent professional.