How does an umbrella company work?
Umbrella companies are growing in demand. More and more UK contractors find themselves inside IR35 legislation and in need of a PAYE payroll provider. But how does an umbrella company work?
We thought the best way to explain how an umbrella company works is to write a short step-by-step guide based on a typical scenario that occurs in the UK. Please note that actual processes may differ depending on the organisations involved.
- A contractor or freelancer (the ‘worker’) lands a temporary contract role via a recruitment agency – working for a private sector company (let’s call them ‘Company X’). The worker will agree to an assignment rate – a rate of pay that takes the umbrella company payroll process into consideration (PAYE and employment costs).
- The worker is handed a list of compliant umbrella companies by the recruitment agency. This is commonly referred to as a ‘Preferred Supplier List’.
- After looking at the umbrella companies, the worker chooses which one they would like to use for their payroll.
- The worker contacts the umbrella company and registers for free. The worker is required to provide a lot of information – as this is legally required. The information required includes address, date of birth, contact information, assignment information, right to work in the UK (if the worker is a foreign national), and bank account details (so the worker can be paid).
- When the worker has completed the initial sign-up process, they will be sent important documents to review and sign – including a contract of employment (because the worker will become an employee of the umbrella company) and an employee handbook.
- The umbrella company will let the worker’s recruitment agency know they have registered with their services. Both parties (umbrella company and recruitment agency) will enter into a contractual agreement.
- The recruitment agency will also enter into a contractual agreement with Company X – the worker’s end-client.
- Once the worker has read the documentation sent to them from the umbrella company and has signed and returned them, they’re ready to go to work, their payroll is set up, and they are officially an employee of the umbrella company.
- The worker is required to complete timesheets and get them signed by the right person at Company X.
- Once complete, the worker must send copies of signed timesheets to their agency and umbrella company. In many cases, recruitment agencies and umbrella companies will have dedicated email addresses (timesheets@ – for example), or the worker will be able to submit their hours worked electronically using a digital portal (if this is the case, login information will be provided by the relevant party).
- The recruitment agency will invoice Company X for the work undertaken by the Worker. Meanwhile, the umbrella company will invoice the recruitment agency for the work too.
- The recruitment agency will send the workers gross funds (assignment rate) to the umbrella company (full amount before any tax deductions, etc.).
- The umbrella company will process the worker’s pay (PAYE) and will make the appropriate deductions, including their margin, tax, National Insurance Contributions and employment costs.
- The umbrella company will pay the worker and a payslip will be made available.
The above is an example. Every temporary worker supply chain will have varying procedures in place, but the above example is pretty close to how most will operate.
If you are a contractor interested in using an umbrella company, make sure you understand the procedures in place, and how each party operates (because procedures may vary from the example above). Most importantly – only engage with compliant PAYE umbrella companies and don’t be tempted to use a tax avoidance scheme.
