IR35: Inside vs Outside
Time to read: 2 minutes
IR35 is a legislation that was introduced to make it fairer amongst employees and contractors so they pay the same level of taxes. In this blog post, we're explaining the difference between being inside IR35 and outside IR35, and what this means for you.
Before IR35 came into place, contractors would offer services and work with agencies via their own limited companies to avoid paying income taxes and national insurance, also known as ‘off payroll working’. Currently, limited companies pay 19% corporation tax on their net profits. This rate is much lower compared to employees who are taxed at source.
Inside IR35 vs outside IR35
We've highlighted the main differences between employees and contractors below:
Standard employees – PAYE income
Employees pay income tax on their gross pay at either 20%, 40%, or 45% - depending on their level of earnings.
Class 1 national insurance contributions are to be paid in addition.
Contractors working via their limited companies
Limited companies pay 19% tax on the net profit, regardless of the level of earnings.
No national insurance is required to be paid.
Contractors also have the ability to withdraw dividends from their limited companies. In the 2022-23 tax year, dividend tax rates are 8.75%, 33.75%, and 39.35%. These tax rates are much lower than the income tax rates mentioned in the table above.
Am I inside IR35 or outside IR35?
Whether a contractor is caught within IR35 depends on the agency or the end client. If the contractor is caught within IR35, the recruitment agency or end client may present the following options.
- Limited company – it may still possible to operate via the limited company whilst inside IR35. The contractor will still be offset some expenses against the income. The recruitment agency or end client will be responsible for calculating these taxes and national insurance contributions and will remit these directly to HMRC. Any taxes paid by the recruitment agency or end client will be offset against the corporation tax liability which in most cases, will result in no corporation tax becoming due.
- Pay As You Earn (PAYE) – if the contractor is able to maintain the current hourly or daily rate of pay, this is great option. Being PAYE may offer some statutory benefits such as holiday entitlement, maternity and paternity entitlements, pension contributions, etc.
- Umbrella company – via an umbrella company the contractor has the chance to maintain their current hourly or daily rate of pay. The downside is the potential take-home pay. Umbrella companies are simply operating payroll for their contractors, the recruitment agency or end client have outsourced this payroll function. Similar to the PAYE option above, the contractor will have no control over the tax and national insurance deductions. In order for the umbrella company to remain profitable, there are costs they will incur that they will pass onto the contractor, which is usually their employer national contributions, apprenticeship levy charges and their processing fees.
If you would like further information regarding IR35 or if you are unsure which option to choose from the three options above, please contact us for further assistance.
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