IR35 rules in the U.K.: a guide for businesses

Key takeaways

• Working reality dictates tax status: Under IR35, a professional’s day-to-day working arrangement determines their tax liability, regardless of what their job title or contract says.

• Employers carry the legal burden: Medium and large businesses must actively assess contractor status or face severe HMRC penalties for misclassification.

• Threshold updates change liability: Increased company size thresholds will reclassify many businesses as small by the 2027/28 tax year, transferring IR35 responsibilities back to the contractor's intermediary.

• AI tools streamline compliance: G-P Contractor™ automates classification checks and reduces the financial and legal risks of engaging U.K. talent.

In the U.K., your company size defines how IR35 applies to your team, and with new thresholds coming into effect, your obligations may change. 

This guide breaks down the rules, explains what’s changing, and shows you how to stay ahead of U.K. compliance regulations.

What is IR35?

IR35 outlines how contractors are taxed when they work through their own company, often called a personal service company (PSC).

The rule is simple. Contractors “who work like employees” have income tax and national insurance contributions (NICs) applied to their earnings. A contractor “works as an employee” when the arrangement closely resembles that of a regular employee — even if on paper they're engaged through their own limited company or intermediary.

This typically involves factors such as:

• The company controls how, when, and where the work is done.

• The contractor is integrated into the business (e.g., uses company equipment, attends staff meetings, appears on staff lists).

• There is an ongoing obligation for the company to provide work and for the contractor to accept it (mutuality of obligation).

• The contractor can’t send a substitute to do the work.

How does it affect you?

Your team decides each contractor’s IR35 status. Contractors inside IR35 require pay-as-you-earn (PAYE) tax and national insurance deductions.

Get it wrong, and the costs add up fast. Your team will be liable for unpaid taxes, employer and employee NICs, interest, and HM Revenue & Customs (HMRC) penalties. Reputational damage can follow.

New IR35 rules explained

IR35 off-payroll rules have developed over time to close gaps in how contractors are taxed and classified.

A quick look at how IR35 evolved

In the past, contractors decided their own IR35 status. This created inconsistencies and left room for underreporting. The U.K. government changed this approach to improve compliance and ensure accurate taxation.

3 changes your team should know

• April 2021: Responsibility moved to clients.
  
  Medium and large businesses in the private sector became responsible for determining the IR35 status of the contractors they work with. This law aligned private sector rules with those already in place for the public sector since 2017.
  
  HR teams were expected to assess contractor status, issue status determination statements (SDS), and apply the correct tax treatment where required.

• April 2025: Company size thresholds changed.
  
  Company size thresholds changed in April 2025 and will affect many businesses from the 2027/28 tax year. 

The IR35 updates redefine what qualifies as a small company. A business is considered small if it meets at least two of the following criteria:

• Annual turnover of EUR 15 million or less

• Balance sheet total of EUR 7.5 million or less

• 50 employees or fewer

• April 2027: Changes come into effect.

More companies will qualify as small under these new thresholds. 

Your team may no longer need to manage IR35 compliance in these cases — the contractor's intermediary will be responsible for determining IR35 status.

What this means for your team

IR35 status fluctuates based on your company size and regulatory updates.

A switch in classification changes who carries compliance risk. Many teams use technology to stay ahead of policy revisions. For example:

Meet Celeste
Celeste is an HR director for a U.S. tech company with a U.K. branch.

The new IR35 thresholds from April 2025 reclassify her company from medium to small for the 2027/28 tax year. Let’s see how she could handle this:

Celeste saves weeks of legal work and manual data entry with G-P, allowing her to focus on scaling her global team instead.

Who is affected by the IR35 changes?

IR35 affects any business that engages contractors through intermediaries.

Factors influencing contractor classification

Your team must assess the actual working relationship. Job titles and contracts don’t determine IR35 status.

A contractor will fall inside IR35 when you:

• Set fixed working hours.

• Direct how, when, and where work is completed.

• Provide tools and equipment.

• Engage the contractor on an exclusive basis.

• Don’t allow a substitute to complete the work.

A contractor will fall outside IR35 when they:

• Control how they deliver the work.

• Work with multiple clients.

• Use their own tools and equipment.

• Set their own schedule.

• Take on financial risk.

Your role in determining status

Your team is responsible for assessing IR35 status when your company meets the size thresholds. You must:

• Issue an SDS:
  Your team must document each decision and share it with the contractor and relevant parties.

• Take reasonable care:
  Your team must show a consistent, well-documented approach to classification.

• Manage disputes:
  Your team must respond to any challenges within 45 days.

Companies classified as small don’t carry this responsibility. In these cases, the contractor's intermediary determines IR35 status.

Why do the IR35 changes matter to employers?

IR35 mistakes cost money and expose you to long-term risk.

Penalties for businesses and contractors

Your team becomes liable when HMRC identifies incorrect classification.

This means paying:

• Unpaid income tax and NICs

• Both employer and employee portions of tax

• Interest and HMRC penalties

Misclassification can also trigger wider consequences. Your team may need to cover backdated employment costs such as holiday pay, minimum wage differences, and pension contributions.

Legal disputes and reputational damage impact your ability to grow and hire in the country, and your U.K. activity could create permanent establishment risk, which triggers additional corporate tax penalties.

Contractors that fall inside IR35 status experience:

• Reduced take-home pay

• Limited employment protections

• No full employee benefits

Disputes over IR35 status with HMRC also create financial and administrative pressure.

Understanding liability

Your company holds full responsibility for IR35 compliance when you’re classified as medium or large. You must assess each contractor, document your decisions, and apply consistent processes.

Failure to take reasonable care puts the full burden of unpaid PAYE and NICs on your business. The HMRC actively pursues IR35 disputes and frequently issues compliance questionnaires to examine off-payroll workforces. 

Read our guide to hiring in the U.K. to understand how to hire and manage teams compliantly.

Best practices for IR35 compliance

IR35 compliance requires ongoing oversight. Your team needs to assess, document, and monitor every contractor relationship.

Use the right tools

Modern businesses use technology to stay compliant.

• HMRC’s CEST tool:
  The Check Employment Status for Tax (CEST) tool helps businesses figure out their status and show reasonable care during the assessment process.

• Agentic AI for HR compliance:
  Standard tools aren't enough for global teams. Advanced solutions like Gia and G-P Contractor use AI to cross-check contractor agreements against local U.K. employment laws. These tools automatically flag misclassification risks and create legally vetted documents in minutes.

Steps for assessing your contractors

1. Track your company size
   Monitor thresholds ahead of the 2027/28 tax year to stay prepared.

2. Standardize SDS documentation
   Every contractor needs a documented IR35 decision. You must prove you’ve taken reasonable care in making each assessment, record the outcome, and share it across the supply chain.

3. Train hiring managers
   Day-to-day working conditions determine IR35 status. Your team needs to understand what triggers an inside IR35 classification — for example: dictating fixed hours, providing company equipment, or directing workflows.

4. Monitor contractor relationships
   A contractor operating outside IR35 can become more integrated into your team over time, which can impact their status. Review arrangements consistently and adjust classifications when working patterns change.

A consistent, well-documented process reduces risk and protects from unexpected tax exposure.

How G-P Contractor can help

G-P Contractor uses AI-powered worker classification to identify risks and integrates directly with systems like Workday and SAP SuccessFactors. It gives your team instant visibility and clear compliance guidance, all in one place.

Grow your U.K. workforce without the risk. Request a proposal today.