CIS vs PAYE: Which is Right for Your Construction Business?

Understanding the fundamental difference

PAYE (Pay As You Earn) applies to employees. The employer deducts income tax and National Insurance, provides workplace rights, and takes responsibility for the worker's conduct. CIS (Construction Industry Scheme) applies to self-employed subcontractors who run their own business and take on commercial risk.

The distinction is not just about paperwork. It affects tax treatment, employment rights, insurance requirements, and legal liabilities. Misclassifying workers can trigger HMRC investigations, back-payments, and penalties.

When PAYE applies

PAYE is appropriate when you control how, when, and where work is done. Signs of employment include fixed hours, supervision of work, provision of tools, and inability to send a substitute. Employees must follow your procedures and work exclusively for you.

Under PAYE, you deduct income tax and employee National Insurance before paying wages. You also pay employer National Insurance at 13.8 percent on earnings above the secondary threshold. Employees gain rights to sick pay, holiday pay, pensions, and unfair dismissal protection.

• You control how and when work is performed
• Worker cannot send a substitute
• You provide tools and equipment
• Worker has fixed hours and regular pay
• Worker must follow your policies and procedures

When CIS applies

CIS applies to genuinely self-employed subcontractors who run their own business. They set their own hours, can work for multiple clients, provide their own tools, and carry commercial risk. They can send a substitute to complete work and invoice for completed jobs rather than working hours.

Under CIS, contractors deduct either 20 percent (registered subcontractors) or 30 percent (unregistered) from the labour element of payments. Materials are paid gross. These deductions are advance tax payments that subcontractors offset against their tax liability.

• Subcontractor controls how work is completed
• Right to send a substitute worker
• Provides own tools and equipment
• Works for multiple clients
• Paid per job or project, not hourly/daily rate
• Bears commercial risk of profit or loss

Tax comparison

The tax treatment differs significantly between schemes. PAYE employees have tax deducted precisely, with employers also paying employer NIC. CIS deductions are blunt 20 or 30 percent payments that may over or under-estimate actual liability.

Self-employed subcontractors pay Class 2 and Class 4 National Insurance through Self Assessment, typically lower than combined employee and employer NIC under PAYE. However, they lose employment rights and must manage their own tax affairs.

HMRC status determination

HMRC uses the Check Employment Status for Tax (CEST) tool to help determine worker status. The tool considers factors like substitution, control, mutuality of obligation, and financial risk. However, CEST is guidance only and HMRC can still challenge determinations.

For off-payroll working rules (IR35), medium and large clients must assess contractor status and make deductions where appropriate. This shifted responsibility from contractors to clients and increased scrutiny of working arrangements.

Risks of getting it wrong

If HMRC determines you treated employees as self-employed, you may owe back-payments for PAYE, NICs, interest, and penalties going back up to six years. You could also face employment tribunal claims for holiday pay, sick pay, and other rights.

The construction sector faces particular scrutiny. HMRC knows that labour-only subcontracting is often disguised employment. Regular audits target businesses with patterns that suggest false self-employment.

• Back-payment of PAYE and NICs up to 6 years
• Penalties of up to 100 percent of tax owed
• Employment tribunal claims for unpaid rights
• Criminal prosecution in serious fraud cases
• Reputational damage with clients and workers

Practical considerations for contractors

If you need flexibility and your workforce genuinely operates as independent businesses, CIS is appropriate. Subcontractors invoice you, manage their own taxes, and can work for others. You avoid employer NIC, pension contributions, and employment law obligations.

If you need reliable workers under your control, PAYE is the correct route. Yes, it costs more in employer NIC and admin, but you gain committed workers without the risk of HMRC challenges. Many construction businesses use a mix of employed core team and genuine subcontractors for specialist or overflow work.

Practical considerations for workers

Self-employment under CIS offers flexibility and potentially higher take-home pay after claiming expenses. You can work for multiple clients, set your hours, and build your own business. However, you have no employment rights, must manage your own tax, and need public liability insurance.

Employment offers security, guaranteed pay, sick leave, and pension contributions. You trade flexibility for stability. Many workers prefer one or the other based on life circumstances, with some preferring employment when starting families.

Making the decision

The decision is not about preference but about the actual working relationship. Look honestly at how work is performed. If you control the worker like an employee, put them on PAYE. If they genuinely operate as an independent business, use CIS.

Document your reasoning. If HMRC challenges a CIS arrangement, you need evidence showing why the relationship is genuinely self-employed. Contracts should reflect reality, and reality should match the contract.

Key takeaways

• PAYE applies when you control how, when, and where work is done
• CIS applies to genuinely self-employed subcontractors
• The test is reality of the relationship, not contract wording
• Getting it wrong risks back-payments, penalties, and tribunal claims
• Use HMRC's CEST tool as a starting point for assessment
• Document your reasoning for worker classification
• Many businesses use both PAYE staff and genuine CIS subcontractors

How we can help you

We specialise in:

• Employment status assessments
• CIS and PAYE setup
• Payroll processing
• IR35 contract reviews
• HMRC enquiry support

Unsure about your workers' status? K&R Accountants reviews your arrangements and ensures compliance. Contact us for a free assessment.