Umbrella vs limited company is a question faced by thousands of contractors. Whether you choose to operate under an umbrella company or through your own limited company impacts the way you work, get paid, contribute tax and National Insurance and your IR35 status. That’s why it’s so important to make an informed, educated decision as to whether you will choose umbrella or limited.

Both options have pros and cons that contractors must take into account when making their decision. However, it’s important that contractors look closely at both options to find the one that is the most time and cost effective option for them.

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To help, Umbrella Broker have put together this handy guide looking at the differences between limited company vs umbrella to help you make the right choice.

Option 1: Umbrella Company

The first route contractors can take is to operate under an umbrella company.

Generally speaking, working through an umbrella company is considered the easiest option for contractors in terms of time and simplicity. Here, although the contractor carries out contract work, the umbrella company will employ them and put them on their payroll.

The umbrella company therefore pays the contractor a salary, deducts what they owe in tax and National Insurance through the PAYE system, processes their invoices and provides them with statutory benefits befitting of all employees including sick pay, holiday pay, maternity and paternity pay as well as a workplace pension.

In exchange, the contractor pays the umbrella company a fee.

This is the preferred route for many contractors who wish to have the ease of being an employee whilst still having the lifestyle, freedom and flexibility of being a contractor.

Option 2: Limited Company

That’s what contracting through an umbrella company entails, so what does the limited company option look like?

When it comes to this option, the contractor instead starts up their own limited company. Therefore, they are self-employed workers who will invoice and charge their clients, be responsible for running their own business and filing a self-assessment tax return.

As this route requires setting up and running a business, inclusive of the paperwork and admin that comes with this as well as often complex tax returns, it is usually considered the more difficult option versus working through an umbrella company.

However, the main appeal of this route is that is can be more tax efficient. This is because contractors are able to pay themselves a salary under their own limited company, and take payments as dividends which are taxed at a lower rate.

This works when the contractor pays themselves a salary under the National Insurance contributions threshold which they will not need to pay income tax on, and then takes dividends up to £2000 which you will also not be required to pay tax on.

Any further dividends the contractor takes is taxed at 7.5% at the basic rate which is significantly lower than the basic PAYE tax rate.

Although this route has its pros and cons, perhaps the main consideration for contractors when choosing between limited company vs umbrella is IR35.

Umbrella vs limited: IR35 considerations

By now, you will have weighed up which option is best for you based on the way you wish to operate, whether that’s through your own limited company or by being employed by an umbrella company. However, there is an additional consideration that comes into the decision-making process: IR35.

 As of April 2021, reforms to IR35 will mean that the legislation will apply to the private sector as well as the public sector. This is set to have a negative impact on thousands of limited company contractors.

For these limited company contractors, these big changes to the legislation will mean that it will become the responsibility of the client, not the contractor, to deduct the contractor’s tax and National Insurance contributions before they are paid their fee.

This is expected to lead to thousands of limited company contractors being wrongly classified under the legislation, meaning they will be required to pay PAYE tax contributions when they do not need to.

This effectively eliminates many of the advantages to the limited company option as it means it is no longer the most tax efficient route. This has led many limited company contractors to rethink the way they operate to avoid being caught out by the reforms to IR35.

On the other hand, contractors working under an umbrella company are exempt from IR35. Because umbrella contractors are employed by the company and pay tax through the PAYE system, IR35 simply does not apply to them. This saves these contractors the worry and stress over whether they are IR35 compliant and leaves them safe in the knowledge that they are paying the correct levels of tax.

Taking this into account, many contractors who have previously opted for the limited company route are now turning towards umbrella companies to ensure they are IR35 compliant.

If this sounds like the best option for you, it’s now time to choose the best umbrella company.

Let our Umbrella Calculator help

To help you find the best umbrella company for your contracting needs our umbrella calculator is here to help.

Simply input your details, contractor requirements and daily rate and we will generate a list of umbrella companies that best suit your needs.

What’s more, we show you exactly how much you will take-home under each umbrella company, showing you what your payslip would look like, including tax and national insurance deductions, what you will pay in umbrella fees and any other costs such as pension payments.

Our umbrella calculator allows contractors to easily compare and contrast umbrella companies to find the one that best suits your needs whilst allowing you to get the best deal.

So, whether you are considering contracting and weighing up your options between limited and umbrella, or are a limited company contractor looking to change before IR35 legislation comes into play in April 2021, our contractor calculator will ensure that you find your perfect match. 

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