Umbrella company, PAYE or limited company: which is best for contractors?

Garage worker

If you’re a contractor and you begin work through a recruitment agency, you’ll be offered a choice of payment structures. This includes PAYE through the agency’s payroll or employment under an umbrella company, each of which has unique benefits. Alternatively, you may decide to set up your own limited company.

Read on to discover what each of these options are and what they mean for you.

 

The options and who they are suitable for

Agency PAYE

Agency PAYE refers to being added onto the agency’s payroll. This means you will work for and be paid by the agency, who will make any relevant deductions. This is the best option if you’re seeking occasional temporary jobs, such as bar work, as each contract is treated separately. Some offer ‘pay between assignments’ contracts for any gaps between projects, but it’s worth assessing the pros and cons of these.

Umbrella company

Your agency may refer you to an umbrella company that will pay your salary on their behalf. You become an employee of the umbrella company which means you gain some great employment benefits as a result. An umbrella company is ideal if you’re working on several short-term assignments with various agencies and would like continuous employment.

Want to find out more about the umbrella company structure? Return to our complete guide to umbrella companies.

Limited company (LTD)

A limited company is a popular business structure in the UK. It allows you to create a business as a separate entity, meaning you and any shareholders keep your personal finances protected should the business fail (unlike a sole trader status). It’s the most tax-efficient option, meaning it’s a good choice if you earn more than £35,000 a year and you’re willing to take more responsibility for your finances.

 

Group of employees sitting around table

 

The differences between PAYE, umbrella, and LTD

Taxes and compliance

  • Both agencies and umbrellas cover tax returns, compliance with IR35, and accounts. As you are employed and paid through PAYE, you will have no financial responsibilities aside from submitting timesheets.
  • As an umbrella company, you are exempt from IR35 as you are an employee.
  • Contractors under agency PAYE and registered limited companies will need to consider IR35. The end client is responsible for determinations.

Take home pay

  • Your salary through an agency will vary in comparison to an umbrella company. While there is the benefit of no admin charges, you are not eligible for as many expense claims under agency PAYE.
  • Umbrella companies will calculate any tax relief on allowable business expenses, which could result in increased pay. However, umbrella companies take a margin for their service and benefits so it’s worth weighing up the options. Some agencies may uplift your contracted rate to cover these costs.
  • As a limited company, you’ll receive greater financial protection. You will be paid by the agency B2B and not as an employee, meaning you’ll take home more pay due to no employee-related deductions.

Worker benefits

  • Umbrella and agency PAYE give you access to certain statutory benefits including sick pay and parental leave. Better ones provide cover for you to complete your work. Also, if the work is subject to IR35, agencies are great for keeping you covered – while umbrella workers are exempt.
  • An umbrella company may provide additional perks like health insurance, life cover, and accident cover. Other benefits may include access to insurances like professional indemnity and public liability, plus the ability to claim costs and expenses. As you will have one tax code regardless of the number of agencies you work for, this means you’ll have a set pay day, one tax code, one pension pot, and one P60.
  • As you are not an employee as a limited company, you will not receive the above worker benefits. This also means you will not receive holiday pay.

 

Woman on beach

 

Employment status

  • If you’re on an agency’s payroll, you are considered an agency worker and every project you complete will be under a new contract. This means you could face gaps in your employment between jobs, and all projects will be selected by your chosen agency.
  • Under an umbrella company, you will be considered an employee. A huge benefit of this is that you will be under a contract of employment, regardless of the number of projects you take on. This means you will have a record of continuous employment, ideal for mortgage and loan applications. Your employer will always be the umbrella company, and not the different end clients you work with. Ultimately, you will be able to operate with more freedom.
  • If you set up a limited company, you will be the director of your business. This means you will receive business-to-business (B2B) payment, as opposed to being on an agency’s or umbrella company’s payroll.

Effort involved

  • Working with an agency is easy as it cuts out any third parties, plus they will work out any deductions and benefits on your behalf. To get started, you simply provide your details via an application form with supporting documentation. When you begin work, you’ll need to log expenses and timesheets so your pay can be calculated.
  • Signing up to an umbrella is simple and can take a matter of minutes. You’ll just need to include details of your umbrella company in your agency application. Once you’re set up, you remain employed across different contracts. Like an agency, your tax deductions will automatically come out of your salary, so you won’t have to worry about these yourself. You’ll also only need to provide timesheets and expenses.
  • Setting up a limited company requires you to register with Companies House which can sometimes be tricky. If you need support, company formation advisors can help you through the process at a small cost. You’ll also need to manage your accounts, including tax returns, unless you hire an accountant to do it for you.

 

To summarise

Let’s quickly compare and contrast the different options against each other to help you determine your best option.

Umbrella company vs limited company

An umbrella company is the easiest option as it takes the responsibility of taxes away from you, and you’ll be exempt from IR35. It also offers the stability of continued employment which makes it easier to get mortgages, loans, and so on. A limited company offers greater financial freedom, and it usually enables the greatest take-home pay.

Umbrella company vs PAYE

An umbrella company offers continued employment, ideal for longer contracts and the increased ability to apply for mortgages and loans. You may have more worker benefits than an agency worker, however you can expect to pay around £100 per month for the service. An agency is ideal for occasional temporary jobs as each contract is separate, offering worker benefits that you wouldn’t receive as an LTD.

Limited company vs PAYE

A limited company offers you the highest level of financial freedom, however this of course comes with greater responsibility. Setting up and managing a limited company requires ongoing maintenance, meanwhile PAYE is covered by the agency. An agency manages your pay deductions and offers worker benefits, meanwhile these will be dealt with singlehandedly – or with the help of an accountant- under a limited company.

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