Umbrella companies – sorting the good from the bad
Contractors have turned to umbrella companies as a hassle-free way of providing their services to clients following the recent changes to the off payroll working rules. They receive no tax savings, but pass on some administration and pay less than a standalone limited company would charge. However, not all umbrella companies are equal.
The main advantage to using an umbrella company is that the off payroll working rules will not apply. All of your earnings become subject to PAYE in the hands of the umbrella company. HMRC has published a useful guide explaining how and what you will be paid when working through an umbrella company (www.gov.uk/guidance/working-through-an-umbrella-company).
You, as the contractor, will be an employee of the umbrella company, and the umbrella company will therefore pay you for the work carried out for clients, whether contracted directly, or via an employment agency. Gross pay is calculated after various costs, such as:
- the umbrella company’s administration costs;
- employer NICs;
- workplace pension contributions; and
- holiday pay.
As an employee, you are entitled to 5.6 weeks of paid holiday pay a year, and the umbrella company must pay you for this if you leave with holiday entitlement accrued.
However, holiday pay must normally be taken in the year it is accrued and cannot be carried forward. This is one area where an unscrupulous umbrella company can cost you, with some simply pocketing pay for unclaimed holidays.
Most umbrella companies are compliant with tax rules, but some use tax avoidance schemes. Be wary of an umbrella company that:
- Claims they can help you keep more of your earnings than others; or
- Asks you to sign an annuity, loan or other agreement involving a non-taxable element of pay, especially if this involves a different organisation to the umbrella company.
Moreover, avoidance schemes may come with a high, non-refundable, fee.
HMRC has published guidance to identifying schemes that wrongly claim to increase take-home pay.