IR35 has been one of the most talked-about tax rules in UK business for over two decades — and 2026 has brought significant changes that every SME owner and HR manager needs to understand. Whether you engage contractors, work through a limited company yourself, or are assessing your off-payroll workforce, this guide explains everything you need to know.
What Is IR35?
IR35 is an anti-avoidance tax legislation introduced in 2000 to tackle ‘disguised employment’ — where individuals work effectively as employees but bill through a limited company (often called a Personal Service Company, or PSC) to pay less tax and National Insurance.
If a contractor is deemed ‘inside IR35’, their income is treated as employment income and taxed accordingly. If they are ‘outside IR35’, they are considered genuinely self-employed and can take dividends and salary in the most tax-efficient way.
| Key Definition
A worker is inside IR35 if, were it not for their intermediary company, they would be classed as an employee of the end client. HMRC assesses this based on control, substitution, and mutuality of obligation. |
What Changed in April 2026?
The most significant IR35 development in 2026 relates to the small company threshold. As of 6 April 2026, the company size thresholds used to determine who bears responsibility for IR35 status determinations have changed significantly:
- The turnover ceiling for ‘small company’ classification has risen to £15 million (up from £10.2 million).
- The balance sheet limit has increased to £7.5 million.
- The headcount threshold remains at fewer than 50 employees.
What this means in practice: a large number of businesses that were previously classified as medium-sized (and therefore responsible for issuing Status Determination Statements to their contractors) will now be reclassified as small. When a hiring company qualifies as small, the responsibility for IR35 status determination passes back to the contractor — not the business engaging them.
| What This Means For Your Business
If your company has grown past the old thresholds but sits below the new ones, you may no longer need to issue Status Determination Statements (SDS) to your contractors. Review your size classification with your accountant before the next contractor engagement. |
The Three Tests HMRC Uses to Assess IR35 Status
Whether you are assessing a contractor you engage or your own status as a contractor, HMRC’s determination hinges on three core tests:
1. Control
Does the end client control how, where, and when the work is carried out? An employee is typically told what to do and how to do it. A genuinely self-employed contractor retains control over their methods and working practices. If your business dictates the contractor’s daily schedule, requires them to attend meetings as staff, or controls their working methods closely, this points toward inside IR35.
2. Substitution
Can the contractor send a substitute to complete the work in their place? Genuine self-employment allows for substitution — if the contractor cannot be substituted (because the client specifically requires that individual), this is a strong indicator of inside IR35. Note that the right to substitute must be genuine and exercisable in practice, not just written into a contract.
3. Mutuality of Obligation (MOO)
Is the business obliged to offer work, and is the contractor obliged to accept it? In a true employment relationship, there is an ongoing obligation on both sides. In genuine contracting, each project is a discrete engagement with no expectation of continued work.
HMRC’s CEST Tool
HMRC provides a free online tool called Check Employment Status for Tax (CEST) to help businesses and contractors determine IR35 status. While it is not legally binding, a result from CEST — if you have answered honestly — provides a degree of protection if HMRC later challenges the determination.
CEST has been criticised by tax professionals for not adequately covering Mutuality of Obligation, so for complex or high-value engagements, independent legal advice is always recommended.
Off-Payroll Working Rules: Who Is Responsible for What?
Since April 2021, the off-payroll working rules (Chapter 10, ITEPA 2003) placed the burden of IR35 status determination on the end client in the private sector — but with the new 2026 thresholds, this has shifted for many businesses.
If Your Business Is Now Classified as Small (from April 2026)
- You are NOT responsible for determining IR35 status for contractors you engage.
- The contractor’s own PSC is responsible for making the determination.
- You do not need to issue a Status Determination Statement.
- You should still ensure your contracts are clear and accurately reflect the working relationship.
If Your Business Remains Medium or Large
- You MUST issue a Status Determination Statement before the engagement begins.
- You must take reasonable care in making the determination — blanket ‘inside IR35’ determinations are not acceptable.
- The contractor has the right to appeal your determination, and you must consider that appeal within 45 days.
- If you use a staffing agency, the agency typically handles PAYE deductions — but you retain responsibility for the status determination.
Penalties for Getting IR35 Wrong
HMRC takes IR35 non-compliance seriously. Penalties can include:
- Unpaid PAYE and NIC liabilities — typically the largest cost.
- Interest on overdue tax.
- A 30% penalty for careless errors.
- Up to 100% penalties where HMRC considers the non-compliance deliberate.
In 2025, HMRC collected over £500 million in IR35-related liabilities from businesses that had made incorrect determinations. This is an area of active HMRC investigation, and the risk of audit is real.
Practical Steps for SMEs in 2026
Step 1: Reassess Your Company Size Classification
With the new thresholds in place, check whether your business now qualifies as ‘small’. Run the two out of three test: turnover under £15m, balance sheet under £7.5m, and fewer than 50 employees. If you meet at least two, you are small.
Step 2: Audit Your Contractor Relationships
Review every off-payroll engagement currently in place. For each one, document the working arrangements honestly — control, substitution, MOO, and how the contractor integrates into your workforce.
Step 3: Update Contracts
Contracts should reflect the actual working relationship, not just the desired tax outcome. A contract that says ‘outside IR35’ is worthless if the day-to-day reality looks like employment.
Step 4: Seek Specialist Advice
For any engagement worth over £50,000 annually, or where there is genuine ambiguity, consult a tax adviser or employment lawyer. The cost of advice is a fraction of the potential liability.
IR35 and the Self-Employed: A Note for Contractors
If you operate through a PSC and your client is now classified as small under the new 2026 thresholds, you are responsible for your own IR35 determination. This is both a risk and an opportunity — you have more control, but you also bear more liability if you get it wrong.
Consider taking out professional indemnity insurance that covers IR35 investigations, and document your working practices carefully.
| SME Today Tip
Regularly re-assess IR35 status — not just at the start of an engagement. If a contract extends beyond its original term, or if working practices change, the status may shift. An annual review is good practice. |
Further Reading
For more guidance on employment and tax compliance for SMEs, explore our Legal and Finance sections for the latest updates, or subscribe to the SMEToday newsletter to receive compliance alerts directly to your inbox.