Understanding Chapter 10: the shift in responsibility

The off-payroll working rules are a set of tax rules that came into force on 6 April 2017 for public-sector workers and were extended to private-sector workers supplied through agencies from 6 April 2021. These rules sit in Chapter 10 of Part 2 of the Income Tax (Earnings and Pensions) Act 2003 (ITEPA 2003). They are separate from the older "IR35" rules in Chapter 8, which we cover in our overview of what IR35 is and how the three status tests work. They create a fundamentally different legal and financial structure from Chapter 8, and understanding the difference is essential because the costs, risks, and compliance burden are not the same.

The regime was introduced to close avoidance in public-sector contracting, where contractors were incorrectly assessed as outside IR35 despite employee-like working practices. The Chapter 10 regime moved status determination from the contractor to the client and shifted financial risk to the fee-payer and client.

The fundamental difference is a shift in who decides whether an engagement is inside or outside the rules and who pays the tax. Under Chapter 8 (which applies to small clients), the PSC (personal service company) contractor assesses their own status and pays any tax bill themselves. Under Chapter 10 (which applies to medium and large clients), the responsibility moves to the end client: the client decides the status (via a Status Determination Statement, described below), and the fee-payer in the chain handles the PAYE and National Insurance deductions. The contractor pays the PAYE and National Insurance but does not make the status decision. Understanding which chapter applies to your engagement is critical because the costs and risks are very different, and the safeguards available to challenge a wrong determination are also different.

When Chapter 10 applies: the small-company exemption

Chapter 10 does not apply to small companies. The exemption is one of the most important planning tools in the off-payroll regime because it returns responsibility to the contractor (and the PSC) if the client qualifies as small. We go deeper into the mechanics in our guide to the IR35 small-company exemption. The definition comes from the Companies Act 2006, and from 6 April 2025, the thresholds were raised significantly (by roughly 50 percent). A company is small if it meets two or more of these conditions:

  • Turnover not more than £15 million (previously £10.2 million)
  • Balance sheet total not more than £7.5 million (previously £5.1 million)
  • Not more than 50 employees (unchanged)

A company must meet at least two conditions. For example, £12m turnover, £8m balance sheet, and 30 employees fails small-company status (only one condition met). A company with £20m turnover but £6m balance sheet and 40 employees qualifies as small (two conditions met).

A company must meet these conditions for two consecutive financial years before its status changes. Even if turnover dropped below £15m in the latest year, if it was above £15m the year before, the client is still large for 2026/27. The earliest a client can drop out of scope is 6 April 2027 (for many year-ends, 6 April 2028). Do not assume a client has moved to Chapter 8 without written confirmation and recent filed accounts from Companies House proving two years of small-company qualification.

The Status Determination Statement: the client's role and the reasonable-care test

Under Chapter 10, the end client must issue a Status Determination Statement (SDS) for each engagement. This is not a suggestion or a courtesy; it is a legal requirement under section 61NA of ITEPA 2003, and we set out what a valid statement must contain in our dedicated guide to the Status Determination Statement. The SDS is the formal written decision on whether the engagement is inside or outside the off-payroll rules, and it triggers different tax treatments for the contractor and different obligations for the fee-payer. The SDS must contain:

  • A clear conclusion: inside or outside IR35
  • The specific reasons for that conclusion
  • A statement that the conclusion was taken with reasonable care

The SDS must be issued to both the worker (the contractor or their agent) and the next party in the supply chain (usually the agency or fee-payer). If the client fails to pass the SDS down the chain to the fee-payer, the liability for PAYE and National Insurance sits with the client until it does. This is a key protection: if the client issues the SDS but does not communicate it to the fee-payer, and the fee-payer operates PAYE on a different basis, the client's own failure to pass the information creates a compliance gap.

The "reasonable care" requirement is crucial and is where many determinations fail HMRC scrutiny. The requirement means the client must actually consider the facts of the engagement, not just apply a template or category label. HMRC will look at whether the client has considered the actual working practices (not just the contract wording), whether the assessment applies individually to each engagement (not as a blanket rule), and whether the reasons given are based on a genuine analysis of the status tests (control, substitution, mutuality of obligation). A blanket determination that says, for example, "all finance contractors are inside IR35" or "all contractors in role X are outside" without assessing each one's actual control, substitution rights, and mutuality of obligation is very likely to fail the reasonable-care test. Even a general determination that applies a single status to multiple contractors with different contracts and working practices, without explaining why each person individually fits that status, is risky.

If reasonable care fails, the SDS is invalid and the client becomes the deemed employer liable for PAYE and National Insurance. This is why many end clients tightened their SDS processes after April 2024. A well-reasoned, individually assessed SDS is the client's best defence against HMRC challenge.

The fee-payer: who operates PAYE and National Insurance

Once the SDS is issued as "inside", the fee-payer steps in to operate PAYE and National Insurance on the deemed direct payment. The fee-payer is the entity that handles the money and remits tax to HMRC; getting this right is critical because failure to remit creates a debt that HMRC can pursue up the supply chain.

The fee-payer is usually the agency closest to the PSC in the supply chain (the one the PSC has a direct contract with). If there is no agency, the end client itself becomes the fee-payer. The fee-payer's core job is to:

  • Calculate the deemed direct payment (the amount the PSC is paid, less VAT and direct materials costs)
  • Deduct employee Class 1 National Insurance at 8% (on earnings between £12,570 and £50,270) or 2% (above £50,270)
  • Operate PAYE on the balance according to PAYE tax tables
  • Pay employer Class 1 National Insurance at 15% on the deemed direct payment (this comes from the client's budget or is added to the cost, not deducted from the contractor's gross)
  • Remit the deducted tax and National Insurance to HMRC, and keep records

A critical difference from Chapter 8: there is no 5% expenses allowance under Chapter 10. Under Chapter 8 (small or overseas clients) the PSC self-assesses and can deduct a flat 5% of engagement income as an administrative expenses allowance when it computes the deemed employment payment. That allowance was abolished for Chapter 10. So under Chapter 10 the fee-payer applies no blanket allowance: the full deemed direct payment is subject to the PAYE and National Insurance calculation, and the contractor gets no flat deduction for administrative costs or overheads. For a contractor on an inside-IR35 engagement, losing the 5% is one of the material cost differences between a small-client Chapter 8 role and a large-client Chapter 10 role.

The deemed direct payment is the invoice to the PSC, minus VAT and direct materials costs paid by the client to a third party. For example, £10,000 invoice plus £2,000 VAT, with £500 materials paid directly by the client equals £9,500 deemed direct payment. If there is no VAT, the full invoice applies (less materials).

The money that reaches the PSC after this process has already had PAYE and employee National Insurance taken off it, so it is not taxed a second time when the worker draws it out. The company records the net payment it receives as income already taxed under the off-payroll rules, and the director can generally take that money as salary or dividend without a further personal charge, provided the company tracks it carefully so it is not inadvertently taxed again. What the contractor loses on an inside-IR35 Chapter 10 engagement is not a second layer of tax on this income, but the tax-efficient salary-and-dividend extraction that a PSC normally enjoys: that income has been taxed broadly like employment income before it ever arrives, so there is no headroom left to optimise. This is the practical reason many contractors on a genuinely inside engagement question whether running a PSC is worth the administration at all, and consider an umbrella instead.

The supply chain and debt transfer

In practice, there may be multiple agencies between the PSC and the end client. Each one takes a margin and passes the remainder down (or up, depending on direction) the chain. The fee-payer is always the party closest to the PSC, usually the one the PSC has a direct contract with. The SDS must flow down the chain: the end client passes it to the agency it contracts with, each agency passes it on to the next, and the bottom agency passes it to the PSC. Two separate failures break this. If the client never reaches a conclusion or fails to pass the SDS to the first party below it, the client keeps the liability until it does. If an agency in the middle receives the SDS but does not pass it on, that agency takes on the obligations until it does. The chain is only as compliant as its weakest link, which is why a contractor should confirm in writing that an SDS exists and has reached them.

If the fee-payer does not pay the PAYE and National Insurance over to HMRC, the off-payroll debt-transfer provisions allow recovery elsewhere. Under the Income Tax (PAYE) Regulations 2003 as amended for Chapter 10, where the party that should account for the tax fails to do so or cannot pay, HMRC can move the debt to another party up the chain. The recovery works upward toward the parties with the deepest pockets and the most control: from the fee-payer to the next agency, and ultimately to the end client, which is the backstop for the whole arrangement. This is the structural reason a large client cares so much about who sits beneath it. From April 2024 onward, many clients responded by tightening agency solvency and compliance checks, insisting on audited supplier lists, and in some cases shortening the chain to a single trusted agency. For the contractor, the primary liability still sits with the fee-payer rather than with you, but a fee-payer that is poorly run, under-capitalised, or non-compliant raises the chance of an investigation that disrupts the whole engagement, so the fee-payer's standing is worth checking before you sign.

The April 2024 set-off: protecting contractors from double taxation

Before April 2024, if HMRC found an engagement was wrongly treated as outside IR35, it assessed the full PAYE and National Insurance on the deemed employer as if the engagement had been inside from the start, with no credit for the tax the worker and PSC had already paid on the same income (corporation tax on profits, income tax and employee National Insurance on salary, income tax on dividends). The result was potential double taxation: the same income effectively taxed once on the outside-IR35 footing and again on the inside-IR35 reassessment. In a bad case that could leave the deemed employer materially out of pocket on the engagement, which is exactly the problem the April 2024 set-off was designed to address.

From 6 April 2024, a statutory set-off (also called an offset) changed this regime significantly. The set-off allows HMRC to reduce the deemed employer's PAYE and National Insurance liability by an estimate of the tax already paid by the worker and the PSC on that income. The set-off recognises that if the engagement was treated as outside, the contractor and company paid tax on it; if it is later found to be inside, that tax should not effectively be paid twice. The set-off credits include:

  • Corporation tax paid by the PSC on profits from the engagement (at the 19% to 25% rate, depending on profit level)
  • Income tax and employee National Insurance paid by the contractor on salary drawn from the PSC
  • Income tax paid on dividends distributed from the PSC (at the dividend rates 10.75%, 35.75%, or 39.35% for 2026/27)

The set-off does not eliminate the PAYE liability entirely (employer NIC is not credited). But it materially reduces exposure. For example, if the assessed PAYE/NIC liability is £50,000 and prior taxes paid equal £35,000, the set-off reduces the bill to approximately £15,000 rather than £50,000.

The set-off applies to errors from 6 April 2021 (private sector) and is operative from 6 April 2024. It is best understood as an HMRC-operated estimate triggered by an event, typically a Regulation 80 determination on or after 6 April 2024, where HMRC can identify the worker and the intermediary and confirm that returns were filed and tax paid or assessed. It is not an automatic netting that a contractor can simply rely on: it credits the worker's and PSC's taxes already paid, it does not refund employer National Insurance (which was never paid in the first place), and it depends on HMRC working through the figures at assessment. For what an inside-IR35 reclassification means in practice for take-home pay, see our guide to being inside IR35 and your options.

The practical effect is that the post-2024 cost of an incorrect "outside" determination, while still serious, is markedly lower than the pre-2024 double-tax position. It is not a reason to relax about status: the employer National Insurance is still payable, interest and penalties can still apply, and the set-off only operates once HMRC has identified the parties and confirmed the figures. It is a reason to treat the determination as the thing that matters most, because a sound SDS avoids ever needing the set-off.

Challenging the SDS: the 45-day disagreement process

If you disagree with the SDS issued by the client, you have a formal challenge process under section 61T of ITEPA 2003. Present representations to the client (in writing) setting out why the determination is incorrect, with reference to your control, substitution rights, mutuality of obligation, contract terms, and working practices.

The client must respond within 45 days, either confirming or reissuing the SDS. If the client issues a new SDS, it is binding and the fee-payer will operate on that basis.

The process is not binding on HMRC or a tribunal, but it is valuable. It creates a formal record of your challenge, forces the client to articulate its reasoning, and failure to respond within 45 days is evidence of lack of reasonable care. If the client fails to respond, HMRC may find the SDS invalid. Always use the disagreement window; it protects your position.

Chapter 10 vs Chapter 8: the key practical differences

Under Chapter 10 (medium/large clients), the client determines status via an SDS, the fee-payer operates PAYE, and HMRC can pursue the fee-payer or client for unpaid tax. The contractor operates on the PAYE result and does not assess their own status. Under Chapter 8 (small clients), the contractor (the PSC) determines their own status, calculates a deemed employment payment if inside, and files a self-assessment return. The contractor bears the risk if the status determination is wrong.

From a cost perspective, Chapter 10 is generally more expensive for a contractor on an inside-IR35 engagement because of the lost 5% expenses allowance described above: a small-client Chapter 8 engagement keeps that flat deduction, a large-client Chapter 10 engagement does not.

From a liability perspective, Chapter 10 puts the risk on the client and fee-payer. If an engagement is incorrectly determined as "outside" and HMRC later investigates, the fee-payer (or the client, if the fee-payer failed on reasonable care) owes the PAYE and National Insurance. The set-off from April 2024 reduces the impact on the contractor, but the primary liability is not the contractor's. Under Chapter 8, the PSC is responsible for the determination and the calculation, so an incorrect status determination is the contractor's problem.

From a process perspective, Chapter 10 requires a formal SDS with a client-led disagreement process (45 days). Chapter 8 gives the PSC control of the status assessment and the 5% allowance calculation, but it does not give them a client-led challenge process; instead, the contractor must justify the status to HMRC if challenged.

For a contractor working under Chapter 10, the practical takeaway is: clarity on the SDS is essential. A well-reasoned, individual SDS that addresses the facts of your engagement is the foundation for correct tax treatment. If you disagree, the 45-day disagreement process is a valuable tool. And from April 2024, the set-off provides meaningful protection if an engagement is later found to be inside.

Sole traders and overseas clients: when Chapter 10 does not apply

Chapter 10 applies only where the end client is a corporate entity (a company, partnership, LLP or similar). If the end client is a sole trader or an unincorporated business, Chapter 10 does not apply. Similarly, if the end client is wholly outside the UK with no UK permanent establishment, Chapter 10 does not apply. In those cases, the PSC stays responsible under Chapter 8 and determines its own status.

This is a crucial distinction. A contractor working for a small unincorporated business is still under Chapter 8 (responsible for own status assessment) even if the business's turnover is high. The small-company exemption under Chapter 10 is also an exemption from Chapter 10; it does not trigger Chapter 8; the PSC remains responsible in both cases.

The bigger picture: working with agencies and managing risk

For contractors, the Chapter 10 regime means several practical considerations. First, clarify with the agency or client upfront whether the end client qualifies as small. If it does, Chapter 8 applies and you are responsible for your own status assessment. If it does not, Chapter 10 applies and the client issues the SDS.

Second, ask for the SDS early. The client is obliged to issue it, and you should have it before you start the engagement or very early into it. If the client is slow to issue it or reluctant to explain its reasoning, that is a yellow flag. A compliant client issues an SDS promptly with reasons.

Third, if the SDS says "outside", verify that the reasoning matches your actual working practices (your autonomy, your right to send a substitute, the level of control, the contract terms). If it does not, use the disagreement process. If the SDS says "inside" and you believe that is wrong, challenge it, but remember that under Chapter 10 you cannot unilaterally override the client's determination; the disagreement process is your formal lever.

Fourth, check the fee-payer's reputation. The fee-payer is the entity remitting PAYE and National Insurance to HMRC. If the fee-payer is insolvent, unregulated, or has a poor compliance history, the debt-transfer risk rises, and your assignment may be at risk if HMRC investigates. Many experienced contractors ask to see evidence that the fee-payer is compliant and solvent.

Finally, understand the set-off. If an engagement is later found to be inside and you have paid tax on outside-IR35 basis, the set-off credits some of that tax against the deemed employer's PAYE liability. This is a material protection introduced in April 2024, but it is an HMRC estimate and you should not rely on it to cover the full cost of an error. The safest approach is to get the SDS right from the start.

Conclusion: the Chapter 10 regime in context

The off-payroll working rules under Chapter 10 move three things away from the contractor: the status decision (the client makes it, in the SDS), the tax remittance (the fee-payer operates PAYE and National Insurance on the deemed direct payment, with no 5% allowance), and the primary liability for getting it wrong (it sits with the fee-payer, transferring up the chain to the end client if anyone defaults). The April 2024 set-off softens the consequence of an error by crediting tax the worker and PSC already paid, though as an HMRC estimate it does not remove the exposure entirely.

That structure makes the regime less hazardous for the contractor than the volume of rules suggests, provided you do three things. Confirm the end client's size and ask for the SDS early, so you know whether Chapter 10 or Chapter 8 applies and what the conclusion is. Check that the SDS reasoning matches your real working practices, and use the 45-day disagreement process if it does not. And check who the fee-payer is and whether it has a sound compliance record, because that is the party remitting your tax to HMRC. If you are running a limited company across a mix of inside and outside work, our overview of PSC and limited-company contractor tax sets out how the wider picture fits together.

If you are unsure which chapter applies to your engagement, whether an SDS stands up, or how a determination changes your take-home, our team can review your position. Start with a free IR35 status review or see how we support contractors through our accountancy services.