If you’re a contractor in the UK, there are two primary methods you can get paid. Option one involves being the director of a personal service company (PSC). Option two is using an umbrella company for your payroll (PAYE). But which option is best? We’ll look at both to help you decide which option is best. Limited v umbrella – we’ll help you identify a winner.
Firstly, let’s consider IR35 and your earning potential
The most tax-efficient way to operate as a contractor in the UK is through a PSC while working outside IR35. This arrangement allows you to pay yourself with a combination of salary and dividends – the most tax-efficient way to operate. This will allow you to retain the highest percentage of your earnings.
If you’re inside IR35 – there are not many advantages of contracting through a limited company. You are probably better off using a PAYE service – such as an umbrella company.
Limited company contracting
To explain the main benefits and drawbacks of working as the director of a PSC, we’ve put a list together to help you decide whether it’s a good option for you.
- The best way to maximise pay retention (when outside IR35).
- If you take an assignment inside IR35, it may be in your interests to seek an alternative payroll service (such as an umbrella company) as a short-term solution. It is possible to keep your limited company open and ready to return to at your earliest convenience.
- Involves you working as the director of your limited company (often referred to as a personal service company). There are many responsibilities of being a director. However, many contractors love the idea of having so much control over their finances.
- As a limited company director, you’ll be responsible for plenty of legal obligations, including HMRC correspondence and publishing accounts. Engaging with a contractor accountant could be very beneficial, but they are an added cost.
- Limited company directors can put legitimate business expenses through their company – allowing tax savings.
- Contracting through a PSC is sometimes regarded as the most professional way to work. It could help you land roles ahead of umbrella company contractors.
- There are plenty of outstanding contractor accountants in the UK that provide dependable services. However, there are tax avoidance schemes too. Never be tempted to use a tax avoidance scheme, and if you come across a company offering you unrealistic take-home pay – run away and never look back.
Contracting with an umbrella company
Umbrella companies are often perceived as being complex arrangements. However, they’re more straightforward than you may have imagined.
- Umbrella companies process PAYE – HMRC’s tax system. Use an umbrella, and you’ll essentially pay tax like a permanent employee. Pay retention will be lower compared to contracting outside IR35 through a PSC.
- When you join an umbrella company, you become an employee. The umbrella is the employer.
- You’ll have access to employee benefits (statutory).
- The employment costs are taken into account when you negotiate your assignment rate. These are the Employer’s National Insurance Contributions (NIC) and the apprenticeship levy. It’s important you take these deductions into account when agreeing to your rate.
- Umbrella companies deduct a margin from your gross pay. This is the only income an umbrella retains for itself. The rest of the deductions that you’ll see on your payslip are sent to HMRC.
- Using an umbrella is the easiest way for contractors to get paid. The administration is minimal, and there are no hidden costs or tie in period. Registering with an umbrella takes about 10-15 minutes.
- Due to supervision, direction and control legislation (SDC), almost every umbrella employee cannot claim tax relief on travel and subsistence expenses.
- Compliant umbrella companies operate PAYE and will ensure you remain compliant with HMRC. However, there are many non-compliant payroll companies out there. Always conduct thorough due diligence when choosing an umbrella. Make sure a well-respected professional body accredits them.
Conclusion
Limited v umbrella – there is no clear-cut winner. Both have their advantages. Both have their disadvantages. If you want to maximise your pay retention (and who could blame you), operating through a PSC is your best option – assuming you’re outside IR35. However, if you decide to use an umbrella company – they have their benefits too. Do your research, and only use a compliant umbrella or accountant.
Further Reading
A guide to contracting in the UK
The taxman comes after Gary Lineker for almost £5 million in IR35 tax case
