In the UK, an umbrella company is a company that directly employs temporary contractors and freelancers, usually on behalf of an employment agency. We refer here to an agency worker or contractor. Then, the clients will benefit from the services of the worker provided by the agency. The tasks of an umbrella company do not include the search or insurance of work for the workers it hires.
Generally, an umbrella company’s services are administrative and accountancy-based – such as managing timesheets, calculating PAYE tax and NI contributions, invoicing the client, collecting monies, and paying the contractor.
How an umbrella company works
Once you have established a partnership with an umbrella company (or PAYE umbrella) and secured a position, the next steps involve signing a contract between you and the umbrella company, but also between the umbrella company and the recruitment agency (or, if applicable, the end client).
By this contract, you become their employee and you agree with the time spent working on projects. Your time will be entered in timesheets, which you will send to your manager to sign.
In short, you send the timesheets to the umbrella company that will bill the end client. When the end customer pays the invoice to the umbrella company, they will process the payment statement for you. Basically, you are paid a salary from which all taxes, duties, and contributions to the state are deducted, as well as the umbrella tax. Basically, the umbrella company acts as an intermediary between you and your recruitment agency (or end client).
Why do agencies use umbrella companies?
Basically, an umbrella company is a payroll company. Recruitment agencies use them to operate a pay-as-you-earn (PAYE) system for agency employees for whom the agency has provided them with jobs.
Also worth mentioning here are the freelancers and self-employed people who use umbrella companies to manage their salary and tax responsibilities.
Benefits depending on your IR35 status
As we already talked about HERE, since the status of IR35 applies to contracts and not to the contractors themselves, an entrepreneur can work on contracts both inside and outside IR35.
The benefits of working under an umbrella company often depend on your IR35 status and whether you’re contracting for the long term. There are certain contractors who choose to work only within the IR35 rather than setting up their own limited company. This gives them the opportunity to use an umbrella company in order to reduce administration. Another good reason is to calculate national taxes and insurance, which can often be quite complicated.
Many entrepreneurs choose to stay out of IR35. And for this, an umbrella company remains an inefficient means of tax operation. However, you can still choose to run a limited liability company and work under IR35 contracts. Or, you can even run a limited liability company and work for an umbrella company at the same time. It just depends on the immediate interests of your business and the benefits you can get.
Advantages of using an umbrella company
As a contractor, you get the same rights as an employee. You can get statutory sick pay, holiday pay, maternity and paternity pay, and a workplace pension.
You benefit from reduced administration because the umbrella company deals with invoicing, chasing payment, sending timesheets, and your payroll. A contract with an umbrella company is useful for short-term contractors. In this case, you don’t need to set up a limited company and deal with everything alongside it.
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