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Umbrellas Explained

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An Umbrella Company provides a ready-made payroll solution for contractors, removing the administrative duties and responsibilities associated with running a Limited Company.

The Umbrella Company will normally issue invoices on the contractor's behalf, collect payments from clients/agencies, calculate Income Tax and National Insurance Contributions (NICs), and pay the contractor their net pay directly to their personal bank account.

Employment is provided to contractors in much the same way as any business that employs staff.  Your Umbrella Company should be paying you through PAYE, deducting Income Tax and NICs from your gross earnings, and issuing you with a P45 when you leave their services or a P60 at the end of the tax year.

Your employment contract should be drawn up on the basis that you are a 'permanent employee' and with the expectation that you will be working for your Umbrella Company for more than one assignment. This is important to show that you are a true 'temporary worker' and not a 'disguised employee'. Your home is regarded as your permanent workplace, and any assignment you undertake is regarded as your temporary work place; this arrangement enables the contractor to claim expenses.

You are only able to claim for expenses that are incurred wholly, exclusively and necessarily in the course of fulfilling your duties.  Even if your Umbrella Company advertises the fact that they have a dispensation, you must obtain a receipt for every expense that you claim.  HMRC can investigate you up to six years after you make a claim. If you claim for an expense and you cannot prove that you have incurred the cost a HMRC investigation could result in you having to pay the underpaid tax, charges and interest. No Umbrella Company can protect you from a HMRC investigation.

Most Umbrella Companies will charge you a fixed weekly/monthly fee, however be wary as some may charge you a percentage according to what you earn.   If you are quoted a fee that is a percentage of your earnings you should ensure that you will still be paying a about the same amount as if it were fixed - average weekly fees are between £15 and £25.

As an employee you should also be covered by the umbrella Company's insurance cover: public & employer's liability, and professional indemnity. The insurance provided and level of cover will vary from one umbrella company to another so it is worth finding out what is provided if you have any concerns.

In summary all Umbrella Companies use the same calculation laid out by the HMRC.  This means that your earnings should not be any higher with one than they are with another. The only difference is the level of service you receive, and the fees they charge.

Essentially an Umbrella Company provides a safe, simple and compliant method of employment for those freelance contractors who don't want the hassle of running their own company.

Further Reading

Agency payroll or umbrella company?
How to compare umbrella companies - a contractor's guide
What freelance contractors should know about umbrella companies
Contractors beware - not all umbrella companies are the same!

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