Cabinet Office Faces £38.5m IR35 Bill: What Contractors and Businesses Can Learn

The Cabinet Office has become the latest government department to face a substantial financial liability after HMRC challenged how it applied the off-payroll working rules.

Figures disclosed in its 2025–26 annual accounts reveal an estimated £38.5 million IR35 liability, following an investigation into contractor engagements dating back to April 2017.

The department has already paid £15 million to HMRC, with a further £23.5 million provided for in its accounts. It also faces the possibility of an additional penalty of up to £8.9 million after HMRC concluded that its historic processes were inadequate and that reasonable care had not been taken.

The case raises an uncomfortable question: if a central government department struggles to apply IR35 correctly, how confident can contractors and private-sector businesses be in their own compliance procedures?

What went wrong at the Cabinet Office?

HMRC began reviewing the Cabinet Office’s contractor arrangements in 2019, examining engagements dating back to April 2017, when responsibility for determining IR35 status transferred to public-sector organisations.

The investigation considered several categories of contractors, including digital developers, content designers, commercial assessors and review team leaders.

HMRC concluded in October 2025 that the department’s historic status determination processes had been inadequate.

The Cabinet Office has disputed aspects of HMRC’s findings and the calculation of the outstanding liability. The final settlement remains subject to negotiation.

The £38.5 million liability explained

Estimated liability:

£38.5m

Already paid:

£15m

Possible extra penalty:

£8.9m

The £8.9m is a potential additional penalty, not part of the £38.5m estimate.

The figures demonstrate how IR35 exposure can accumulate across multiple engagements and financial years.

The potential additional penalty arises from HMRC’s finding that reasonable care was not taken. The Cabinet Office considers the likelihood of paying that penalty remote and has not recognised a provision for it.

Importantly, this is not simply a disagreement about a single contractor’s employment status. It concerns the effectiveness of an organisation’s wider approach to assessing and managing contractor engagements.

What does reasonable care actually mean?

Under the off-payroll working rules, public-sector organisations and medium or large private-sector clients must generally determine the employment status of contractors supplying services through intermediaries.

They must take reasonable care when making those decisions.

That means considering the individual engagement, obtaining accurate information and assessing the actual working arrangements rather than relying solely on contractual wording.

Factors can include control, personal service and substitution, mutuality of obligation, financial risk and the wider nature of the relationship.

An organisation cannot necessarily demonstrate reasonable care simply by completing a questionnaire or producing a Status Determination Statement (SDS).

The decision needs to be supported by accurate information and appropriate reasoning.

Why should private-sector businesses be concerned?

The Cabinet Office case is particularly relevant to recruitment agencies, consultancies and end clients engaging limited company contractors.

Since April 2021, medium and large private-sector clients have generally carried responsibility for determining IR35 status.

Where a determination is incorrect, the consequences can include unpaid tax, National Insurance, interest and potentially penalties, depending on the circumstances and which party is legally liable.

The Cabinet Office case demonstrates that even organisations with substantial administrative resources can face significant liabilities when compliance processes are found wanting.

It also reinforces the importance of reviewing existing contractor populations rather than concentrating exclusively on new engagements.

What does this mean for individual contractors?

Although the off-payroll rules generally place status determination responsibility on qualifying clients, contractors still have an important role.

A contractor should understand the reasons behind their IR35 determination and ensure the written contract accurately reflects the way services are delivered.

Where an engagement is considered outside IR35, retaining evidence of genuinely independent working practices is extremely valuable.

An IR35 Status Review can help identify potentially problematic contractual terms before an assignment begins or when an agreement is renewed.

Contractors should also be prepared to question an SDS where they believe the determination does not accurately reflect the engagement.

Could IR35 Insurance provide protection?

Even a carefully assessed engagement can potentially face an HMRC challenge.

IR35 Insurance provides protection against costs associated with a covered HMRC investigation as well as resulting IR35 tax liabilities, interest and penalties.

Insurance should complement accurate status assessments, properly drafted contracts and appropriate record-keeping rather than replace them.

Contractors should also consider other business risks. Professional Indemnity Insurance provides protection against alledged errors and ommissions, while Public Liability Insurance and Employers’ Liability Insurance address the potential exposure to claims alleging bodily and property damage.

 

The wider lesson: IR35 compliance cannot be a box-ticking exercise

The Cabinet Office is not the first government organisation to face a substantial IR35 liability.

Previous investigations have resulted in significant tax bills across departments including the Department for Work and Pensions, Ministry of Justice and Home Office. 

The latest case demonstrates that IR35 compliance needs to be an ongoing process.

For clients, that means defensible determinations, accurate information and clear records.

For contractors, it means ensuring contracts and working practices reflect a genuinely independent relationship where outside-IR35 status is claimed.

The most important lesson is that reasonable care must be demonstrated, not simply asserted.

Roots Contractor Insurance supports UK contractors with IR35 Insurance and IR35 Contract Reviews, alongside Professional Indemnity, Public Liability and Employers’ Liability Insurance.