Steering clear of umbrellas – why setting up your own limited company can offer you better savings for that rainy day

There was much in the press last month about umbrella companies and the fact that construction workers, and other workers who use umbrella companies such as those in the health sector, may be considerably worse off setting up their business in this way. In fact, parliament was lobbied about it by UCATT and Unite on 26 November 2014.

So what’s an umbrella company? And if they cost so much, why have people been choosing to work with them?

Umbrella companies offer contractors a way of working with organisations as a contractor without the need to set up a company or complete time-consuming tax returns. When you set yourself up under an umbrella company you are, essentially, becoming an employee of that company. They’ll ask you to submit time sheets for the work you do, and in return, they’ll pay you under their PAYE scheme. You can also claim some of your business expenses through the umbrella company.

Sounds good, until you consider the costs involved. As well as charging a fee for you to use their services, you’ll be losing out on the tax efficiencies of setting up your own company. In fact, last month it was reported that working under an umbrella company could mean losing out on around £120 a week, paying not only your personal National Insurance Contributions but also those that the employer should be paying for you too. This amounts to 25% of eligible pay and, typically, the take-home pay of a contractor working under an umbrella company will take home around just 65% of their contract values.

Conversely, setting up as a limited company can offer attractive tax benefits, especially if you’re earning over £150 a day and have never been made bankrupt. As a limited company director, you can structure your finances to mean that, while you take a smaller salary to benefit from lower rate income tax and National Insurance Contributions, you can make up the rest of your income from business profits in the form of a dividend. Your dividend will still be taxable, but this will also be at the lower rate. All meaning that typically you’d take home around 85% of your contract values.

You’ll also be able to claim expenses for items such as travel, clothing, and tools to your company, rather than paying for them yourself.

Umbrellas vs limited companies

The benefits of setting up a limited company far outweigh those of working under an umbrella.

Benefit

Umbrella

Limited company

No paperwork, other than timesheets and expenses forms

Yes

No

No accounting

Yes

No

Lower rate tax

No

Yes

No service fee

No

Yes

Independent

No

Yes

Tax efficient

No

Yes

Business expenses can all be claimed

No

Yes

While they’ve been around for a long time, there seems little to recommend the umbrellas other than the fact that, currently, work is easier to come by through umbrellas than working for your own limited business. Government have taken a step towards rectifying this problem in their draft Finance Bill for 2015, and are due to publish a discussion to inform possible action at Budget 2015.

Published Saturday, January 19, 2013

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