An outside-IR35 contract means HMRC accepts your limited company is genuinely in business on its own account, not disguised employment. Your company bills the client, your company pays corporation tax on its profits, and you decide how to pay yourself — usually a small PAYE salary up to the personal allowance, then dividends from retained profit. The combination of lower effective tax rates and no employer NI is what makes outside IR35 worth about 20-25% more in take-home than inside IR35 at the same day rate.
The four taxes an outside-IR35 contractor pays
- Corporation tax on the company's profit: 19% up to £50,000 of profit, tapering up to 25% between £50K and £250K, and 25% flat above £250K.
- Employee National Insurance on your PAYE salary: zero below the primary threshold (£12,570 for 2026-27), 8% above it.
- Dividend tax on dividends above the £500 dividend allowance: 8.75% up to the basic-rate threshold, 33.75% up to the higher-rate threshold, 39.35% above £125,140.
- Employer NI only applies if your salary exceeds the secondary threshold — at the optimum £12,570 salary it does not kick in.
Why £12,570 is the right salary
Below £12,570 you pay no income tax (the personal allowance covers it) and no NI (both the primary and secondary thresholds sit above or at that figure for 2026-27). The salary is a tax-deductible company expense, reducing the corporation tax bill. Paying yourself one pound more triggers 8% employee NI on everything above £12,570, which more than offsets the extra corporation tax relief. One pound less and you waste part of your personal allowance.
A worked example: £500 day rate, 220 billable days
Company revenue: £500 × 220 = £110,000. Running costs: say £5,000 for software, accountant, insurance and a home-office allowance. Director's salary: £12,570.
- Profit before corporation tax = £110,000 - £5,000 - £12,570 = £92,430.
- Corporation tax on £92,430 at the small-profits + tapered marginal rate: around £19,000.
- Profit available to distribute as dividends: £73,430.
- Dividends taken: £73,430. Income tax on dividends: £500 allowance tax-free, then 8.75% on the amount up to the basic-rate threshold, then 33.75% above.
- On a £12,570 salary + £73,430 dividend, dividend tax works out to roughly £13,500.
- Net personal income after dividend tax: around £59,900. Add the £12,570 salary (no PAYE deducted): total take-home ≈ £72,470.
That number assumes you distribute all distributable profit as dividends. In practice contractors often leave 20-30% in the company to smooth cash flow and defer tax — the amount you don't distribute stays taxed at 19-25% (corp tax only) and avoids dividend tax entirely until you take it in a later tax year.
Tip: The UK IR35 Take-Home Calculator shows the full inside-vs-outside comparison for your own day rate, billable days and expense profile. Each tax deduction is itemised on the page.
Splitting dividends with a spouse
If your spouse is a shareholder and has no other income, they can draw dividends up to their own personal allowance, dividend allowance and basic-rate band tax-efficiently. This can add £10,000-£12,000 of annual take-home for a dual-shareholder couple. HMRC permits this only if the spouse genuinely owns the shares (not through an alphabet-share scheme designed solely to redirect income). Get an accountant to sign off on the shareholding structure before you rely on it.
Expenses that are deductible outside IR35
A legitimate limited-company expense reduces the profit the company pays corporation tax on. The usual deductibles that make a real difference: a mileage allowance for client travel (currently 45p/mile for the first 10,000 business miles), training and professional development, specialist equipment and software, your proportion of utilities for a home office, professional subscriptions and a company mobile phone. The accountant's own fees are deductible, so if your bill is £1,200 a year the effective cost after corporation tax relief is closer to £900.
When your rate is high enough to lose the small-profits band
Corporation tax rises from 19% to 25% as company profit crosses £50,000, with a tapered marginal rate between £50K and £250K that works out to 26.5% on the slice in that band. On a £500 day rate over 220 days, after a reasonable salary and expenses, you sit roughly in the middle of that taper. Day rates above £700-£800 typically push you fully into the 25% band — at that level the gap between inside and outside IR35 narrows (though it remains meaningful) and splitting income with a spouse becomes more valuable.
Questions people ask
- What does a £500 day rate outside IR35 pay take-home?
- Around £72,000-£84,000 after corporation tax, employee NI on a token salary, and dividend tax, depending on expenses and whether you distribute all profit. On the same day rate inside IR35 the figure is closer to £65,000.
- What's the optimum salary for a limited company director in 2026-27?
- £12,570 — the full personal allowance. Below the primary NI threshold, so no employee NI; below the secondary threshold, so no employer NI; fully covered by the personal allowance, so no income tax. Any pound above triggers 8% employee NI.
- How much corporation tax will I pay?
- 19% on profit up to £50,000, a tapered marginal rate (effectively 26.5% on the slice) between £50K and £250K, and 25% flat above £250K. A typical outside-IR35 contractor at a £500 day rate sits in the taper and pays an effective rate of 21-23%.
- Can I split dividends with my spouse?
- Yes, if your spouse is a genuine shareholder with no other income. They can draw dividends tax-efficiently up to their own personal allowance and dividend allowance, which can add £10,000-£12,000 of household take-home. Get an accountant to confirm the shareholding structure stands up to HMRC settlements rules.
- What expenses can I claim outside IR35?
- Any genuine business expense: client travel at 45p/mile (first 10,000 miles), training, specialist equipment, software, professional subscriptions, a company phone, and a proportion of home utilities if you work from home. Each deduction reduces the profit the company pays corporation tax on.