The Unintended Consequences of IR35: Rising Costs & Offshoring Trends in Tech Contracting

When the IR35 reforms were extended to the private sector in 2021, they were intended to create fairness in tax contributions between employees and contractors. However, four years on, the reality is that these changes have significantly impacted the UK’s tech contracting market, pushing rates higher and forcing businesses to explore offshoring as a cost-effective alternative. This shift has also led to a decline in UK-based contracting opportunities, negatively impacting skilled professionals who now face fewer local roles.

The 2021 IR35 Reforms: A Quick Recap

The legislation, which had already applied to the public sector since 2017, shifted the responsibility of determining a contractor’s IR35 status from the contractor to the hiring company. This change meant that large businesses, fearful of compliance risks, took a more conservative approach—resulting in a rise in inside IR35 determinations.

Understanding Off-Payroll and IR35

The off-payroll rules apply to contractors working through their own limited companies, determining whether they should be taxed as employees (inside IR35) or as self-employed (outside IR35). Businesses must assess the working arrangements to decide if a contractor falls within the scope of IR35, considering factors such as control, mutuality of obligation, and financial risk.

Inside vs. Outside IR35: What Roles Fall Where?

Inside IR35 Roles: Typically, contractors who work under close supervision, follow company-set hours, use client-provided equipment, and have little financial risk are deemed inside IR35. Common examples include Business Analysts, IT Support, Project Managers, and some Software Developers working on in-house teams. Outside IR35 Roles: Contractors who work independently, set their own schedules, use their own equipment, and can be financially liable for project outcomes are more likely to be outside IR35. Examples include Freelance Developers, Cybersecurity Consultants, Enterprise Architects, and Infrastructure Specialists delivering specific outcomes under a Statement of Work.

The Rising Cost of Tech Contractors

One of the most immediate and noticeable effects of the IR35 changes was a substantial increase in contractor rates. As many highly skilled contractors refused inside IR35 roles due to reduced take-home pay, companies were forced to pay a premium to secure top talent. This led to:

Higher project costs: Companies had to absorb additional expenses to attract and retain key tech talent. Increased reliance on umbrella companies: Many contractors moved to umbrella companies, which added administrative burdens and additional costs. Permanent talent shortages: The reluctance of seasoned contractors to accept inside IR35 contracts resulted in long-term hiring challenges for businesses.

Offshoring as a Direct Response to IR35

With escalating contractor rates and compliance complexities, many UK businesses have turned to offshoring and nearshoring to fulfil their tech talent needs. Countries with strong IT talent pools, such as India, Poland, and Portugal, have seen increased demand as UK companies seek cost-efficient solutions.

The key drivers of this trend include:

Lower costs: Offshore resources often come at a fraction of the cost of UK-based contractors under IR35.

Easier compliance: Businesses avoid the tax risks and administrative burdens associated with IR35.

Scalability: Offshoring provides access to a broader talent pool without the constraints of UK employment laws.

The Negative Impact of Offshoring on UK Jobs

While offshoring presents cost savings for businesses, it has also led to a decline in opportunities for UK-based tech professionals. With fewer roles available inside the UK, experienced contractors are finding it harder to secure work that aligns with their skills and financial expectations. This shift has also contributed to:

A drain of local expertise: Reduced investment in UK-based talent development. Decreased job security: More reliance on temporary offshore solutions rather than long-term local employment. Challenges in maintaining quality: While offshore teams offer skills at a lower cost, differences in time zones, communication, and regulatory frameworks can lead to inefficiencies.

What’s Next for the UK Contracting Market?

The long-term effects of IR35 on the UK’s tech sector are still unfolding, but businesses and contractors alike must adapt. Some potential solutions include:

• More detailed contract structuring: Shifting to Statement of Work (SoW) agreements, which focus on deliverables rather than time-based engagements, to mitigate IR35 risks.
• Engaging specialist consultancies: Partnering with firms that can offer compliant contractor solutions while ensuring competitive rates.
• Exploring hybrid models: Balancing a mix of UK-based and offshore talent to optimise cost and expertise while maintaining a strong local workforce.

Final Thoughts

The 2021 IR35 reforms were intended to level the playing field, but their unintended consequences have reshaped the UK’s tech recruitment landscape. With rising costs and a shift towards offshoring, businesses must rethink their workforce strategies.

For companies looking to navigate this evolving landscape, working with a specialist talent solutions provider can offer guidance, mitigate risks, and unlock access to the right skills—whether locally or globally.

At Vanloq, we understand the challenges of IR35 and its impact on tech contracting. If you're exploring your workforce strategy, get in touch to discuss how we can help you adapt and thrive in this changing market.