Every contractor must choose how they will operate, whether through their limited company, a PAYE agency, or an umbrella company.
Whether you are a seasoned contractor or considering moving to contract, you will likely have heard of an umbrella company. After all, this is an option that has become increasingly popular for contractors in recent years.
However, contractors will want to know the disadvantages of using an umbrella company to decide whether this option is suitable. In this guide, Umbrella Search outlines everything you need to know about umbrella companies in 2023 and the drawbacks and advantages of this option.
Umbrella company defined
Before we look at the disadvantages of an umbrella company, let's first look at what one is.
An umbrella company is a company that is set up to act as the middleman between the contractor and the client. As such, the umbrella company employs the contractor and, in turn, makes contracting easier and less stressful for the contractor as they take a range of tasks off the contractor's plate.
For example, the umbrella company will invoice the client on the contractor's behalf and chase any late payments. The umbrella company collects the contractor's fee directly from the client, processes it through the PAYE system, and then deducts the correct tax and National Insurance levels before paying the contractor the remainder.
The umbrella company also handles various business tasks associated with contracting, including admin, paperwork, invoicing, and expense processing.
The umbrella company also covers the contractor with statutory payments for illness, holidays, and maternity or paternity leave because they are the contractor's employer.
The umbrella company covers the contractor with the appropriate insurance required.
Finally, the umbrella company provides the contractor with a payslip that shows their salary and deductions.
That's how an umbrella company works, so what are the disadvantages of using one?
Disadvantages of using an umbrella company
Less tax efficient
The main disadvantage of umbrella companies is that they are typically less tax efficient than those paid through a salary and dividends through your limited company.
This is because umbrella company contractors pay tax through the PAYE system, the UK's most common form of taxation. Therefore umbrella contractors pay taxes in line with current tax bands.
Limited company contractors, on the other hand, can pay themselves more tax-efficiently by paying themselves a low salary and then dividends subject to lower tax bands.
However, a wide range of benefits to operating through an umbrella company outweighs the negatives. Next, look at the advantages of working through an umbrella company.
Advantages of using an umbrella company
There are many advantages to using an umbrella company, including the following:
Taxes are taken care of
Firstly, working through an umbrella company ensures you comply with your tax obligations and HMRC regulations. This means that you won't be investigated in the future and won't get caught out by IR35 legislation.
Moreover, paying your tax and National Insurance through the PAYE system means that your tax obligations are taken care of for you, meaning no stressful self-assessment tax returns are required. This also means that you don't have to worry about setting aside a portion of your contractor fee to cover the end-of-year tax bill, which requires careful time and planning.
Easy and hassle-free contracting
Umbrella companies are renowned for making contracting easy and hassle-free. They take on all the required business and financial tasks that are part and parcel of contracting, so all the contractors must worry about the job.
This means less time focusing on accounts, admin, and paperwork and more time to focus on winning that dream contract.
Statutory benefits
Umbrella contractors qualify for statutory benefits, including paid holiday, sick, and maternity or paternity leave, as well as a workplace pension.
So, if you fall ill or want to take a well-earned holiday, you will still get paid for your time on leave. This is unlike limited company contractors who have to pay for any time taken off out of their own pockets.
Continuity of employment
Another advantage to working through an umbrella company over a PAYE agency is that umbrella contractors benefit from continuity of employment, meaning one handy tax code. This makes things like getting a mortgage or loan much more accessible.
IR35 exemption
As umbrella contractors are employed by their chosen provider, they are automatically exempt from IR35. This means no stress or headaches about whether or not you will fall under IR35 and become subject to investigation. Whether you work in the private or public sector, you can avoid IR35 altogether.
Low fees
The great news is that umbrella company fees are competitive and remain relatively low. In exchange for this extensive list of benefits, contractors can expect to pay around £25 per week to their chosen umbrella company.
If you have decided that contracting through an umbrella company is the best option, Umbrella Search is here to help.
Use our umbrella calculator to find your perfect match
At Umbrella Search, we help every contractor find an umbrella company that's just right for them.
We work closely with you to understand your contracting needs before doing the research and due diligence required to provide you with a list of the best umbrella companies.
To see how we can help, why not contact one of Umbrella Search's friendly team members today?
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