How much will IR35 cost you? Outside – Inside – Perm

This guide talks about the impact IR35 will have on your take-home pay. How much will IR35 cost you? Should you go Inside IR35/Umbrella or Perm?

In Part I of the IR35 mini-series we talked about the current state of contracting and the IR35 mess. We covered some pros and cons of being a contractor and how it compares with being a permie.

It’s now time to talk numbers. The math will hopefully help you decide whether IR35 has made contracting worth continuing. The answer, as usual, is: it depends! Before we dive in, first some definitions. What do we mean by Outside IR35, Inside and Perm:

Outside IR35: The pre-2020 contracting landscape. You operate as a limited company that pays corporation tax and personal income tax. You have the freedom to choose your taxes based on how much you want to withdraw as salary/dividends from your company. Also, business expenses can be claimed.

Inside IR35 / Umbrella: You still operate as a contractor through your limited company or through an umbrella. The take-home pay amounts between inside IR35 and umbrella are very similar. You are taxed more than a permanent employee. That’s because you have to pay both yours and the Employer’s National insurance. 

You’re not paid while drinking Pina Coladas on the beach or when sick (except a small amount of Statutory pay).

Your gross pay is usually higher than a perm to compensate for these plus all other minuses that come with contracting, like void periods, short notice period, accounting, DIY pension etc. You don’t get to choose when to withdraw your profits, as everything is taxed at source and you must take all income home now.

Permanent employee (perm): The majority of the workforce belongs here. The usual employee of a company, who belongs to the company payroll, has a salary that lands in your bank account each month no matter what. Entitled to holidays, sickness pay, and potentially other benefits such as pension, training and mandatory performance reviews.

How much will IR35 cost me Inside IR35 or Umbrella?

This is the most common question. People switching from Outside IR35 to Inside or Umbrella want to know how much income they will lose.

For starters, we assume that the Outside IR35 contractor takes all income home and leaves nothing in the company.

Taking all income out is not the most tax-efficient way to deal with your company money. But it’s a good baseline so let’s start with that. The following graph shows the take-home pay Outside IR35 compared to Inside IR35/Umbrella at the same rate.

Cost of transition from Outside IR35 to Inside IR35 or Umbrella
Take-home pay: Cost of transition Outside IR35 to Inside IR35 or Umbrella.
Outside IR35 (All out): take all income home.
Assumptions: 44 working weeks. 5w hols, 8d bank hols, 7d sick/void

The higher the rate the more it will cost you to transition from outside IR35 to inside IR35. But it’s not that bad. (hint: it gets worse).

So in most cases, a contractor will lose anywhere between 15% to 20% of their take-home income. Here’s a graph, showing the percentage difference for the given rates.

percentage loss if I move Outside IR35 to Umbrella or Inside IR35
Percentage loss switching Outside IR35 to Umbrella or Inside IR35

Punchline: For tax-inefficient contractors who take all money home, the difference between Outside IR35 -> Inside IR35 (or Umbrella) is between 15-20%.

What if you switch to perm, instead? Let’s see how an Outside IR35 compares to the same gross income taken as a perm employee.

Cost of moving from Outside IR35 (All Out) to Perm

But a few people I know have abandoned contracting altogether and want to switch to perm. What would the impact be if we take the same gross income as a perm?

Here’s the take-home pay when taken as an Outside IR35 contractor vs the equivalent gross pay as a perm employee. I’ve used the salary calculator (link) to calculate the take-home pay of all perm salaries.

Take-home pay: Outside IR35 vs Inside IR35/Umbrella vs Perm
Take-home pay: Outside IR35 vs Inside IR35/Umbrella vs Perm

As you can see, going perm doesn’t make much of a difference. On £600 per day, for which the equivalent annual gross is £132,000, the difference is just £6,000 per year.

However, here’s the catch:

It is really hard to achieve the same gross income as a perm. Here is a table outlining the equivalent gross amount of a daily rate when charged annually (44 working weeks. 5w hols, 8d bank hols, 7d sick/void):

Contractor rate when charged annually
Contracting rate when charged annually based on 44 working weeks

Do you see the problem? In my experience, a contractor on £300/day will find it really hard to find a job at £66,000. Similarly, one who earns £600/day won’t easily find a £132,000 perm salary, even if you account for things like pension and bonus.

And it makes sense from a risk point of view. As we explained in Part I of this IR35 series, as a contractor your client doesn’t provide months of leave notice, job security or any perks. You provide a service at a cost. You are a Capital Expenditure (CapEx budget).

As a perm, the company makes commitments to you which is why the equivalent gross pay is unrealistic. I don’t know exactly what the equivalent “discount” we need to apply here when switching from Outside IR35 to Perm. But I do know there is one. So the percentage difference is higher than the table above suggests – to some extent.

The difference is BIG when the contractor is tax-efficient

The gap between Outside IR35 and all the other options widens further if you’re a tax-efficient contractor.

I’m sure you know a lot of people who don’t take all the money home.

Most contractors I know will at least take advantage of the minimum salary/dividends payout. So they all withdraw a minimum salary and dividends up to the point that doesn’t cross the higher taxpayer threshold (£50,000 as of 2020).

I think we can all agree this is a good tax strategy assuming you have no other (unsheltered) income outside your LTD affairs. Why take more £50,000 a year and pay higher taxes if you can just leave the money in the company and just pay corporation tax? Assuming, of course, you can live on this amount.

To the extreme end of this spectrum, there are people like myself who invest their company money. I consider my LTD money as “take-home” because it can provide income for years to come when invested. Others just leave it in there in cash and at some point, they claim “Entrepreneur’s Relief” (if this is not scrapped soon). This means they will only pay 10% tax to take it out of the company.

different ways for contractor take-home pay

This all means the take-home pay for Outside IR35 contractors can be different from person to person despite having the same daily rate.

Putting it all together we have the following groups:

  1. All Out:  Some other people say I want all my capital in my pocket, therefore I’m happy to pay the extra dividend tax to do that. This means I’ll have to apply a 32.5% dividend tax on the money before it becomes “take-home”. All-out approach
  2. Leave Surplus In strategy: Some, like me, consider the LTD surplus cash as “take-home” pay. Since you can invest the company money, the income/dividends will keep coming and I don’t need to (ever?) withdraw this surplus. So for the purposes of providing me income, the money is effectively take-home although it still belongs to the company. This is mathematically the most tax-efficient way.
  3. Entrepreneurs Relief approach: Some others take an accumulative approach but with ER in mind. They say, I will only withdraw a minimum salary and dividends as everybody else does and I will leave the rest of the money in the company. When the sum is big enough, I will close the company down and claim Entrepreneur’s Relief by paying only 10% tax to make the money mine. I will call this approach the ER approach.

So for an Outside IR35 contractor who takes a £50,000 take-home and leaves the surplus in the company (on 10% tax, Entrepreneurs Relief) here is the difference in take-home:

Take-home pay Outside IR35 (ER) vs Inside IR35
Take-home pay Outside IR35 (ER) vs Inside IR35

That’s a BIG difference. So if you leave some money in the company, moving from Outside IR35 to inside IR35 is going to cost you 30% loss of income on £650 per day. It’s “just” 15% on £200 per day but can go up to 33% loss on £1000 per day.

Percentage loss in take home income from Outside IR35 Entrepreneurs Relief to Inside IR35
Percentage loss in Take-home income from Outside IR35 (Entrepreneurs Relief style) to Inside IR35

A bit depressing if you’re an Outside IR35 on a high rate. The data don’t lie!

Putting it all together: Outside IR35 vs Inside IR35 & Umbrella vs Perm

If we put all possible options in one single graph, it looks like this:

Take-home comparisons: inside vs outside IR35 vs perm
Take-home comparisons: inside vs outside IR35 vs perm

And that’s all on the same gross pay!!!

So when people ask me whether converting from contracting to perm has a difference, the answer is: It depends on how well you handle your taxes. If you’re wise with taxes, then it makes a massive difference. As you can see, an Outside IR35 contractor on £500 per day, who Leaves Surplus In goes from £87,000 down to £70,000 (perm) or £62,400 (Umbrella). That’s a 30% drop in take-home income!

If you want to have a detailed look at the exact numbers, here’s the full table:

Take-home for given gross. Outside IR35 vs Inside IR35/Umbrella vs Perm
Take-home for given gross. Outside IR35 vs Inside IR35/Umbrella vs Perm

Even if you’re not working exactly 44 weeks and make the same assumptions as I do, the above table gives you a good indication. Here is a link to my spreadsheet which I used to calculate all the Outside IR35 take-home options. Use File -> Make a copy to edit the file, please do not request access to edit mine.

You may be wondering:

How can I improve my take-home pay if I cannot continue contracting Outside IR35? 

There are a few things you can do to improve your take-home pay.

  1. Negotiate a rate increase
  2. Contribute to your pension

Negotiating a rate increase can work sometimes but it’s a bit futile. If everyone is running around like a headless chicken, why would companies offer more? It’s a question of supply and demand really because I’m sure companies still need some flexible workforce to scale up and down quickly.

So we shall wait and see who needs who more 🙂

Contributing to your pension is a sure win from a tax point of view and makes the transition much smoother. That’s because your pension contributions are income-tax-free, NI-free and corporation tax-free. In the next article we are going to answer the following questions:

  • How can I increase my take-home pay inside IR35, Umbrella or Perm?
  • How much do I need to increase my rate inside IR35 to match my Outside IR35 take-home?

Calculation Notes:

  1. A contractor works approximately the same weeks as a perm employee. Takes 5 weeks holidays, 8 days bank holidays, 7 days sickness/void periods between contracts. Total: 44 working weeks. 
  2. All calculations were done for the Financial tax year 2019/20
  3. No pension was added to either perm or contract. It can save both perm and contractors a lot of tax. Pension deserves its own chapter, which is why we’re going to have another article just on how to use pensions to extract more out of your salary.
  4. Perm calculations include ALL benefits, bonus, overtime etc except pension.
  5. Used my Outside IR35 Contractor calculator (Google Sheet) to calculate all take home styles
  6. Inside IR35 calculations provided by Contractor Calculator – link
  7. Salary (perm) calculations by The Salary Calculator – link

Share this article:

Share on facebook
Share on twitter
Share on pinterest
Share on whatsapp

Join the Newsletter

Every 2 weeks, I send a handwritten email with honest, valuable content.
No spam, ever.

    We respect your privacy. Unsubscribe at any time.

    You may also like...

    17 thoughts on “How much will IR35 cost you? Outside – Inside – Perm”

    1. Hi Michael,

      Thanks for this. Do you invest your company money through pension (so before corporation tax), or do you do it after you’ve paid corporation tax and invest it privately as profit?

      I’m wondering because I’m quite loathe to leave it in government’s control (even private pension age is planned to go up), and that puts me off pensions.

    2. Thank you, Michael. Great article.

      I was using the minimum needed salary and dividends approach so it will be a big hit. One of my client has agreed to increase the rate so mitigate the impact and I’ll put the revised rate for future contracts. Increasing pension contribution is another option and I’d also suggest making the full use of ISA allowance while it lasts for any spare income you are forced to withdraw given that tax is already paid. Any dividends invested and re-invested in ISA, hopefully, coupled with some increase in rates, along with pension contribution will hopefully take the edge out of 33% or so hit on income.

    3. @D I do both. As you rightly said, pension contributions suffer from lack of control but are 100% tax-efficient. So some of my investments go into a SIPP (saving corporation tax) and some I invest through my limited company after corporation tax is paid but still pre-income-tax.

      @Peterparker sounds like a good plan. I understand not everyone can increase their inside-IR35 rates but should definitely ask to share the pain with the employer.

      @Satish, @Peter Jones – Glad you liked it 🙂 Hopefully, the chaos won’t last long!

    4. Great article Michael – thanks for sharing the insightful graphs and calculator. You managed to make a difficult topic enjoyable to read!

    5. Very well thought out and presented Michael. I have already gone permie as I saw the writing on the wall. The tax hike the past 9 months has been painful but at least some respite today in that Entrepreneurs relief has not been canned. I have a reasonable level of co. reserves over 100k; appreciate in your other posts you talk about opening a holding co. and investing via there but I think unless you have 200k plus or a growing warchest (on the expectation of being able to stay contracting outside IR35) the costs of running the two cos. would eat into potential returns too much.

      • Thanks, Andrew. I was glad to hear ER is not going away too! Starting an investment company for me has a much lower limit. £50k or so. If you can make a say 7-10% on £50,000 that’s between £3,500 to £5,000 versus £0 returns in the bank. But yeah, there’s hassle involved I hear you.

        • Thanks Michael. That makes sense if you’re planning on adding in fresh capital over time. But if you’re out of the contracting gig like me I think its harder to justify, and the fees for running the co. are going to eat into those returns. That’s why I was so relieved ER was retained as I can pull out the stagnant cash with only a minor hit. If I was staying contracting I would go down your second company route. But what with the world as it is and mine (and presumably most other’s) pensions and investments decimated knowing what to do with anything spare is all up in the air anyway! FIRE is perhaps less achievable but also not likely the top priority right now. Stay safe folks!

    6. @Michael. A very in depth article, thanks!

      Did you ever do the followup article covering the necessary increase in rate necessary to maintain the same take-home when moving from outside to inside IR35?

      With the revised implementation date for IR35 changes now coming into force in a few months time, it’d be great to see your analysis on this.

      • Glad you found it useful, Martin. I haven’t written the article yet. You can probably estimate that by looking at the last take-home table based on your rate. So for a £500 per day outside IR35 contract (All money out) the equivalent would be ~£650 per day inside IR35.

        The more tax-efficient you are with the company money the higher the rate increase to match it. Goes to show why IR35 can be a big showstopper and why it has really killed most of the freelancing job postings!

        • Hi @Michael, thanks for your response!

          Just to check my understanding is correct: following your example, if I translated a £700 a day outside all out (£98k) that would be equivalent to around £900 a day Inside IR35?

          Does the same logic apply to cross referencing between the Outside IR35 Entrepreneurs Relief and Inside IR35? ie a £650 a day at Outside ER (£107k) is equivalent to approximately £1,000 a day Inside IR35?

    7. Very good article. However, I am one of those contractors who are efficient with their tax. I am loosing 30% pay in real terms and its ruining my life. Sold my car (not a really nice one) and had to hand notice in to my sons private school. its heartbreaking. IR35 has ruined my life.

    8. Hello Michael,
      I’m wondering what would be the best strategy for someone who has stopped contracting and taken on a perm role.
      Would you close the company, go with ER and take surplus funds out? Or continue down the strategy of investing surplus funds in stocks/shares or property?

      I see the benefits if you continue to do contract work outside IR35. Investing surplus funds make total sense especially if you’re being tax efficient.
      However with Entrepreneurs Relief on the table I seem to think it flips to the other side.

      Asking for a friend 😉


      • Hi Mannuel, short answer is it depends on your goals. If keeping Entrepreneur’s relief is important to you then investing a substantial amount might lose this benefit. You have to be more careful how you want to go about it.

        See can I claim entrepreneur’s relief if my company invests?

        ER also restricts you from operating in the same space for 24 months. That’s the “phoenixing” rule. So if you want to leave your perm job and go back to contracting, that’s another thing to consider.

        Having said that, the Entrepreneur’s Relief rules change all the time so it might not be here for long. Just speculating though, but now we definitely know it’s on the table.

        Overall, it depends on many different factors, and you have to run different scenarios. It’s a popular question and part of the tax pillar in the company investing course.


    Leave a comment