How accounting works for contractors isn’t always obvious, especially when you’re the one doing the work and the paperwork. This is a plain-English walkthrough of what you actually need to know.

What You Actually Need to Keep Track Of

The basics of contractor accounting start with knowing what money is coming in, what it costs to earn it, and what you’ll owe HMRC at the end of the year. That sounds simple, but it breaks down quickly when you’re pricing jobs, buying materials, hiring a subcontractor for a week, and chasing three invoices at the same time. Most contractors I speak to aren’t bad at money. They’re just running too fast to write any of it down properly.

The main things to track are your income from each job or client, your materials and direct costs, your business expenses like tools, fuel, insurance, and phone, and any payments you make to subcontractors. If you’re VAT-registered, you’ll also need to track VAT on what you charge out and what you pay on purchases. Getting those four categories right means your year-end tax bill shouldn’t come as a shock.

CIS and IR35: The Two Things That Catch Contractors Out

If you work in the construction industry and get paid by a contractor rather than directly by a client, the Construction Industry Scheme (CIS) probably applies to you. Under CIS, the contractor paying you deducts tax at source, either 20% if you’re registered or 30% if you’re not. That deducted tax is then credited against your tax bill when you file your self assessment. The key point is that your bank balance doesn’t reflect what you’ve actually earned net of tax.

IR35 is a separate set of rules that applies if you provide services through a limited company but HMRC decides you’re operating more like an employee. The three tests HMRC uses are whether you have a right of substitution, how much control the client has over how you work, and whether there’s a mutual obligation to keep offering and accepting work. Being caught inside IR35 typically means 20 to 30 percent less take-home pay, so it’s worth getting right from the start.

Sole Trader or Limited Company: Which One Makes Sense?

Most contractors start as sole traders because it’s simple. You register for self assessment, file once a year, and pay income tax on your profits. That works fine at lower income levels. Once you’re consistently earning above around £50,000 a year, a limited company often becomes more tax-efficient because you can draw a combination of salary and dividends rather than paying income tax on everything.

From April 2026, dividend tax rates have increased. The basic rate went from 8.75% to 10.75% and the higher rate from 33.75% to 35.75%, with the £500 dividend allowance unchanged. For a director taking a £12,570 salary and £37,700 in dividends, that change means roughly £744 more in tax each year. It’s still often more efficient than being a sole trader at higher earnings, but the gap has narrowed and it’s worth running the numbers for your specific situation.

The 2026 CIS Changes You Need to Know About

From 6 April 2026, nil CIS returns became mandatory again. If you’re a contractor registered under CIS and you haven’t paid any subcontractors in a given month, you still need to file a nil return unless you’ve told HMRC in advance that you’re going inactive. Miss it and the penalties start at £100 immediately, rising to £200 at two months and further still at six months. A lot of contractors don’t realise this applies even when there’s nothing to report.

HMRC also now has the power to cancel Gross Payment Status immediately where a business knew or should have known a payment was connected to fraud. The ban on reapplying has gone from one year to five years, and the liability can be passed up the supply chain with a 30% penalty on top. That’s a significant risk if you’re not doing basic checks on who you’re paying. It’s one more reason to keep clean records of every subcontractor you use and to verify their CIS registration status before you pay them.