IR35 and Agency Workers in the UK: What Employers and Contractors Need to Know in 2026

IR35  formally known as the off-payroll working rules  has been one of the most contested areas of UK employment taxation for two decades. Since the April 2021 reform extended the rules to the private sector, medium and large UK businesses engaging contractors through intermediaries have faced new compliance obligations. For businesses that use agency-supplied workers, understanding how IR35 interacts with agency staffing arrangements is essential.

This guide explains what IR35 is, how it applies (and when it does not) to agency-supplied workers, what the responsibilities of each party in the supply chain are, and what practical steps employers should take to manage their IR35 exposure.

What Is IR35?

IR35 legislation targets arrangements where an individual provides services through an intermediary — typically a personal service company (PSC)  but the working relationship is economically similar to employment. Without IR35, a worker operating through a PSC could extract earnings as dividends rather than salary, avoiding income tax and National Insurance at the employment rate. IR35 counters this by deeming such workers to be employees for tax purposes when three employment tests are met: personal service (the individual personally does the work, not a substitute), control (the hirer directs how and when the work is done), and mutuality of obligation (expectation of ongoing work on both sides).

How IR35 Applies to Different Types of Agency Engagements

PAYE Agency Workers  IR35 Does Not Apply

The most important point for most AESN clients: IR35 does not apply to workers who are employed directly by the agency and paid through PAYE. When a worker is on the agency’s payroll  with income tax and National Insurance deducted at source  the IR35 question is irrelevant. The agency is the employer, and there is no intermediary company involved. The vast majority of temporary workers placed by AESN are PAYE employees of AESN, making IR35 a non-issue for our clients in these arrangements.

Limited Company Contractors  IR35 Applies

IR35 applies when the worker operates through their own limited company (a PSC) and provides services to an end-client through a supply chain that includes an agency. In these arrangements, since April 2021, the determination of employment status for tax purposes (the ‘IR35 determination’) must be made by the end-client if it is a medium or large business. Small businesses remain exempt and the IR35 decision falls on the worker’s own PSC.

Who Makes the IR35 Determination?

Medium and large end-clients must use HMRC’s CEST (Check Employment Status for Tax) tool or an equivalent evidenced methodology to make the determination, document the outcome in a Status Determination Statement, and pass this down the supply chain to the agency and the worker. Failure to issue a valid SDS transfers the IR35 tax liability to the end-client.

The Status Determination Statement (SDS)

If your business is medium or large and engages contractors through PSCs, you must issue an SDS for each engagement. The SDS must: state whether the engagement is inside or outside IR35; give the reasons for the determination; be passed to the agency in the supply chain and to the worker. The worker has the right to dispute the determination through a client-led disagreement process, which the client must respond to within 45 days.

Practical Steps for Employers Using Agency Staff

1. Identify all contractor engagements through PSCs in your supply chain – separate from PAYE agency workers, where IR35 is not relevant
2. Determine whether your business meets the medium/large threshold – two of the three criteria
3. For each PSC engagement, conduct an employment status assessment using HMRC CEST and document the outcome
4. Issue a Status Determination Statement and pass it to the agency and the contractor
5. Establish a formal disagreement process for contractors who dispute the determination
6. Review all SDS determinations at least annually or when the nature of an engagement changes materially

AESN’s compliance team is available to help clients navigate IR35 in blended workforce arrangements where both PAYE agency workers and PSC contractors are used. Contact us: info@aesn.co.uk | 020 8064 0457