When a charity engages someone to deliver work, the decision between payroll and contractor status affects more than monthly outgoings. It shapes the charity’s tax position, legal exposure and how HMRC views the organisation.

The challenge is getting the classification right.

Transparent workforce arrangements protect the charity from unexpected tax liabilities, support audit readiness and help trustees understand the true cost of delivering the mission.

But what counts as genuine self-employment? What does each option actually cost? And what happens if HMRC disagrees with your classification?

How Do UK Charities Distinguish Between Employees and Contractors?

You can call someone a freelancer, pay them through their own limited company, even have them sign a contract for services. None of it matters if the way they actually work looks like employment. HMRC will look at the reality of the relationship, not the paperwork.

Signs of Genuine Self-Employment

A genuine contractor can send someone else to do the work if they are unavailable. They carry financial risk: if the project overruns, that is their problem, not yours. They use their own equipment, work for multiple clients and get paid for delivering something specific rather than just being available.

In short, they are running a business, not filling a role in yours.

Signs of Employment

Employment looks different. You tell them what to do, when to do it, and how. They cannot send someone else instead. They sit in your office, use your email address, attend your team meetings. There is an understanding that work will keep coming and they will keep turning up.

Add holiday pay or pension contributions into the mix and the picture is clear.

The HMRC Status Tool

HMRC’s Check Employment Status for Tax tool gives you a starting point but courts are not bound by it. The real test is simpler: if someone looked at how this person actually works day to day, what would they call it?

What Does Hiring Staff vs Contractors Actually Cost a Charity?

Trustees sometimes look at a £35,000 salary, compare it to a contractor quoting £200 a day, and assume the contractor is more expensive. That comparison misses most of what’s important.

The True Cost of Employment

Take that £35,000 salary. From April 2025, employer National Insurance hit 15%. That is £5,250. Pension contributions add another 3% minimum. Then there is holiday pay, sick pay cover and the possibility of redundancy costs down the line.

By the time you add it up, that £35,000 salary is costing you somewhere north of £44,000.

What Contractors Cost

A contractor at £200 a day for 120 days comes to £24,000. No employer NI, no pension, no holiday pay. But if they are VAT registered and you cannot reclaim it, add 20%.

You will also spend more time writing briefs, managing deliverables, and filling the gaps in institutional knowledge that permanent staff would have.

The Risk Nobody Budgets For

If HMRC decides your contractor was actually an employee all along, you owe the tax that should have been deducted, plus interest and penalties. If the arrangement ran for years, the numbers get serious.

A financially resilient charity works this out before signing anything, not when the enquiry letter arrives.

How Does IR35 Affect UK Charities?

Many trustees assume the off-payroll working rules are something that happens to IT consultancies, not charities. That assumption has cost organisations real money.

What IR35 Actually Does

When someone works through their own limited company, they typically pay less tax than an employee would. IR35 asks a simple question: if that company structure did not exist, would this person look like an employee? If the answer is yes, they should be taxed like one.

Before 2021, the contractor decided their own tax status. Now, medium and large organisations must make that call themselves. If you classify someone as a genuine contractor but HMRC later disagrees, your charity owes the unpaid tax, not the contractor.

Small Charity Exemption

Smaller charities do not carry this responsibility. If you meet two of three tests, (turnover under £10.2 million, balance sheet under £5.1 million, fewer than 50 staff) you qualify as small. The contractor remains responsible for determining their own status and the liability stays with them.

What Larger Charities Must Do

If your charity does not qualify as small, you take on new obligations. Before engaging any contractor working through a limited company, you must assess their employment status using HMRC’s tests and provide them with a Status Determination Statement in writing before work begins.

What Ethical and Reputational Factors Should Charity Trustees Consider?

Tax efficiency is not the only consideration here. How you treat the people who deliver your work says something about your charity. Funders are paying attention.

Duty of Care

Whether someone is on payroll or not, you are responsible for their working conditions. This means reasonable workloads, safe environments, and treating people properly. A contract label does not change what is right.

The Volunteer Trap

This catches charities out more often than you would think. If your “volunteer” gets regular payments that look a lot like wages or has to turn up at set times with no real flexibility, you may have accidentally created an employment relationship.

The NCVO guidance on involving volunteers states that volunteering has to actually be voluntary. Cross that line and you are looking at back pay, holiday entitlement, and possibly minimum wage claims.

What Funders and Donors Think

The sector has taken criticism for questionable employment practices dressed up as flexible working. Grant makers increasingly ask about how you treat staff and contractors.

Donor confidence depends on charities doing things properly across the board, not just in programme delivery.

How to Decide Between Staff and Contractor Arrangements?

Staff versus contractor is not just an admin question. It is a governance decision with real financial, legal and ethical weight. For each role, trustees should think through a clear set of questions.

What Kind of Work Is It?

Is this an ongoing role that will exist indefinitely or a specific project with a clear end point? A finance manager position belongs on payroll. Someone coming in for six months to sort out your CRM probably does not, as long as the arrangement reflects that.

How Much Control Do You Need?

If you need someone at a desk from 9 to 5, following your processes, integrated into your team, that points to employment. If you are buying an outcome and do not care how they get there, contractor status might work.

Trustee Decision Checklist

Before approving any new role or renewing an existing arrangement, trustees should work through these questions systematically. They translate the legal tests into board-level decisions.

For each role, ask:

• Is this work core and ongoing or time-limited and project-based?
• How much day-to-day control do we realistically need over hours, place and methods of work?
• Could a genuinely independent business deliver this or does the role sit at the heart of our operations?
• What would it cost us, (in cash and risk) if HMRC reclassified this role in three years?
• What does this arrangement look like to an outsider: a regulator, funder or journalist?

This checklist belongs in your board papers whenever you are making workforce decisions. It creates an audit trail and forces proper scrutiny.

What Governance Controls Do Charities Need for Contractor Engagement?

Saying “get the paperwork right” is not enough. Trustees need structures that make good decisions routine.

Board-Approved Policy

Start with a board-approved policy on employment versus contractor engagement. This should sit alongside your HR, safeguarding and financial controls policies. It sets out who can authorise contractor arrangements, what criteria they must apply and what documentation is required before anyone starts work.

Contracts That Reflect Reality

Contracts must reflect reality, not just repeat labels. Writing “self-employed contractor” at the top of an agreement means nothing if the clauses underneath describe employment.

Your contracts should explicitly address substitution rights, control arrangements, and financial risk in ways that match how the relationship actually operates.

Periodic Review

Build in periodic review. At least annually, someone should look at every contractor arrangement and ask whether it still fits the tests.

Long-running engagements have a way of drifting toward employment in practice while the paperwork stays the same. Catch that before HMRC does.

When Should You Seek Professional Advice on Employment Status?

Not every situation is clear-cut. Some arrangements sit uncomfortably between categories and trustees should recognise when they are out of their depth.

Common Grey Areas

Watch for these situations:

• Contractors who have been with you for years and are embedded in team meetings and planning
• Volunteers receiving regular payments that start to look like wages
• Individuals who are employed in one capacity but invoice you separately for additional work

Each of these can create unexpected liabilities.

When to Get Help

When the status is genuinely uncertain, do not decide by instinct. HMRC’s employment status guidance and sector-specific commentary from the Charity Tax Group provide useful starting points.

But if real money or reputation is at stake, get professional advice before committing. The cost of a proper review is trivial compared to the cost of getting it wrong.

Making Workforce Decisions Work in Practice

Get it right and you protect your charity and the people doing the work. Get it wrong and you spend money on tax bills and damage control instead of your mission.

Done well, clear workforce classification builds trust with funders, strengthens governance and gives boards the confidence that every engagement is visible and well-managed.

Now is a good moment to review how your staff and contractor arrangements are structured, documented and reported.

At Charity Accounting Partners, we help trustees get their financial foundations right, including workforce costs and contractor arrangements. Whether you are reviewing existing setups or planning new hires, we are here to help.

Book a discovery call and let’s talk through what you need.