Doing nothing about IR35 & off-payroll can cost you far more than the tax. If you treat a contractor as 'outside IR35' and pay them gross without making a status decision, HMRC's disagreement means you will pay the missing tax and interest, plus penalties. Ignoring the rules will almost certainly be judged careless, which adds a penalty of up to 30% of the full tax bill.
On a single £100,000 engagement, a tax bill with penalties can turn a tax bill of around £10,700 into one of around £24,400 before interest.
What happens if HMRC finds you ignored IR35?
If HMRC finds you ignored IR35, you pay the PAYE income tax and National Insurance that should have been deducted, plus interest. HMRC then asks whether you were careless. A business that ignored the rules will almost certainly be found careless, so penalties are added, and HMRC can look back six years instead of four.
Incurring penalties for being careless means you did not take reasonable care. Tax tribunals have tested reasonable care for years. Our guide, IR35 & Off-payroll: Are you taking Reasonable Care?, sets out which approaches meet the standard and which fail it.
How much does a careless finding add to an IR35 bill?
A careless finding can more than double the cost of an IR35 mistake.
In the example below, the tax the business actually owes is £10,688, but a careless penalty adds £13,708, taking the total to £24,396 before interest.
The example is a single £100,000 engagement that the business treated as outside IR35 and paid gross, without making a status decision. HMRC later decides the contractor should have been treated as an employee for tax.
| Step | Amount |
| Full tax bill on the engagement | £45,693 |
| Less: credit for tax the contractor and their company already paid | (£31,442) |
| Less: relief for corporation tax the contractor's company overpaid | (£3,563) |
| Tax the business pays if it took reasonable care | £10,688 |
| Plus: careless penalty, 30% of the full £45,693 | £13,708 |
| Total if found careless, before interest | £24,396 |
The example assumes the contractor's company paid its corporation tax and dividend tax in full. Interest is extra in both cases and depends on how long ago the error was made.
Why is the IR35 careless penalty so high?
The careless penalty is expensive because HMRC calculates it on the full tax bill, before giving credit for the tax the contractor has already paid. A 30% penalty on £45,693 is far larger than 30% of the £10,688 the business actually owes, so the penalty can end up bigger than the tax itself.
Two other things make it worse. Penalties get no relief for corporation tax the contractor overpaid, so every pound comes straight off profit. And the employer's National Insurance can't be offset against anything the contractor paid, so it is always payable in full.
Who pays the tax: the client or the agency?
A client that does nothing pays the tax. Under the off-payroll rules, the client keeps the liability until it makes a status decision and passes its Status Determination Statement (SDS) to the contractor and the next party in the supply chain. Only then does responsibility for tax move to the fee-payer, usually the agency.
Skipping the status decision leaves the whole bill, and any careless penalty, with the client.
What this means for your business
Avoiding a careless penalty is straightforward. You need a sensible, documented process and, where the questions go beyond your own knowledge, a competent IR35 advisor whose advice you act on. Five steps cover it:
- Get your contracts reviewed. Written contract terms carry considerable weight with tribunals, so have an IR35 specialist check yours.
- Assess every engagement before it starts. Make a status decision for each contractor and issue an SDS.
- Train your hiring managers. The people who engage contractors need to know how the rules apply.
- Write down your process and keep the evidence. Record how each decision was made and what it was based on.
- Bring in specialists if HMRC opens a compliance check. Experienced help early on keeps checks short.
HMRC typically treats businesses that follow these steps as low risk, and its compliance checks on them tend to be quick.
Frequently asked questions
Do we need a Status Determination Statement if we think a contractor is outside IR35?
Yes. Under the off-payroll rules, the client should make a status decision and give its reasons in a Status Determination Statement, whatever the outcome. Until the client issues a properly reasoned SDS and passes it to the contractor and the next party in the supply chain, it retains the tax liability.
Does an "outside IR35" contract protect us?
A well-drafted contract helps, because tribunals start with the written terms which are legally binding. You still need to assess the whole working relationship and record your decision in an SDS.
Is interest charged as well as tax and penalties?
Yes. HMRC charges interest on IR35 tax that was paid late, whether or not you are found careless. The amount depends on how long ago the tax should have been paid, so the longer a problem runs unnoticed, the more interest builds up on top of the tax and any penalty.
Can we use HMRC's CEST tool to sort this out quickly?
CEST is free and optional, but it is weak. A CEST result doesn't look at your contract or give your reasons, so on its own it isn't a Status Determination Statement. HMRC isn't bound by CEST results, and public bodies that relied on CEST have still been found careless.
How far back can HMRC go if we ignored IR35?
HMRC can normally go back four years for income tax and six years for NICs. If you were careless, which ignoring IR35 almost always is, income tax extends to six years.
How IR35 Shield helps
IR35 Shield is a specialist advisory that works on IR35 and off-payroll working. We have handled many HMRC status enquiries, successfully defended at the tax tribunal, and closed HMRC compliance checks; our Tax Investigation Service is underwritten by Markel.
Every month IR35 goes unmanaged, your exposure increases so if you need help with your IR35 processes, feel free to reach out. You can email us at info@ir35shield.co.uk or get in touch with an expert to find out how we can help.
