Umbrella companies have been an increasingly popular method for payroll outsourcing in the UK for contractors or hiring contractors, especially during the time leading up to the implementation of the IR35 legislation.
It is seen as a good option for handling the administration of hiring independent contractors or temporary workers. However, is it the best option out there?
When engaging contractors or temporary workers, the intermediary companies you work with must have the right infrastructure in mind for your business goals and compliance.
Information about umbrella companies and their structure will be explored in further detail below.
What is an umbrella company?
An umbrella company acts as a medium to employ agency contractors that work on temporary or fixed-term contract projects.
It is also known as a PAYE umbrella company, as it acts as an intermediary between the contractor and the agency, or the end client. The contractor’s payroll is handled by the umbrella company through the PAYE system. This system processes the contractor’s timesheets and invoices, as well as deducts all taxes and social security contributions from the salary before it reaches the contractor.
The most common sectors that umbrella companies work with in the UK include employment agencies, business support services and consultancies.
Umbrella companies have flourished in the past decade in the UK, as they can offer a hassle-free business structure for contractors to operate in. However, using an umbrella company does come with some risk.
It is vital that the umbrella company you work with is compliant with tax obligations. One needs to be sure that they are also using a legitimate service with an umbrella company.
How does an umbrella company work?
When signing up to an umbrella company, contracts must be signed with both the recruitment agency/end-client and the umbrella company itself. Since the umbrella company must act as an intermediary, the agency/client must also have their own agreement with the client.
Umbrella companies typically charge either a weekly or monthly fee, which may also be removed from the contractor’s salary or paid by the end client, as written into the agreements when first engaging the umbrella company’s services.
The payment process with an umbrella company involves a few steps, which typically include:
- Submitting the timesheet and pass it on to the recruitment agency or client and the umbrella company, showing how many hours you worked in the week/month
- The umbrella company invoicing the recruitment agency or end-client for the necessary payments
- Once the umbrella company receives the payment, preparing your payroll and deduct the following before paying the contractor’s salary and reimbursing pre-agreed business expenses:
- employment taxes
- the pre-agreed umbrella fee/margin
- personal taxes
- pension contributions
- The contractor being issued a pay slip that details all of the deductions and net take-home pay
What does the new legislation (IR35) mean for umbrella companies?
In recent years, there have been raised concerns by the UK government that “disguised employees”, mainly contractors acting under a limited company, were not being legally classified as an employee for tax purposes.
In order to restructure the contracting industry, as well as ensure tax compliance and compliant employee classification, the new IR35 legislation was introduced, and the new rules were set in place in April 2021.
All large and medium-sized businesses are now responsible for classifying the employment status of contractors with Personal Service Companies (normally meaning their own limited company), following a new set of administrative procedures to ensure compliance.
In order to avoid these new procedures, many contractors have sought out umbrella companies instead.
However, the rise in popularity for umbrella companies does come with some risks – ensuring their accreditation and compliance is vital before engaging with their services. Failure to do so can result in tax complications with the local authorities or illegal deductions to their wages.
A better option – use an Employer of Record with Bradford Jacobs
However, there is a safer and more compliant option for both employees and their employers, through the use of an Employer of Record.
With over 20 years of experience, Bradford Jacobs uses its global infrastructure and network as an Employer of Record to obtain the right employees, issue local employment contracts (with a competitive benefits package) and put them on compliant payroll.
Bradford Jacobs will take on the legal responsibilities as the employer, whilst the employee works full-time for the client.
An Employer of Record allows you to place employees anywhere in the world, without the need to set up your own entity, or the risk of not meeting the national laws and regulations.
EOR vs. Umbrella Companies – What’s the difference?
Whilst both an Employer of Record and Umbrella Company are used as intermediaries or links between employees and employers, their structure is different.
Umbrella companies are seen as a traditionally hassle-free way for contractors to take care of their payroll, invoicing, and administration. These providers are usually small establishments, who must make networks with other agencies or providers to increase their reach.
Due to this, umbrella companies are not built to scale and have a high risk of not knowing the international legal, tax and HR know-how, leading to outsourcing onboarding international employees and its global legal infrastructure third parties.
An Employer of Record, however, is one company that owns the whole employment infrastructure in each country where it is present, with all the know-how and expertise in legal, payroll and tax required. Recruitment is also done through its own entities.
The Employer of Record also works closely with both the employer and employee to ensure that the employment relationship is working well and that both sides remain happy with the arrangement. Global flexibility for employees is also guaranteed.
Want To Know More?
If you want to know more about the services Bradford Jacobs can do according to the country, check out our Countries We Serve page.