PAYE, Umbrella or Ltd Company?
Historically, the majority of contractors worked through their own limited companies. The tax advantages of working this way far outweighed any other method. With the introduction of IR35 these tax advantages may have been removed depending on whether you fall within the new IR35 "rules" or not. As a general rule, if you fall outside the IR35 rules then you will be most likely better off using a limited company, whereas an umbrella company would probably be more beneficial otherwise.
Having secured your assignment, you now need to think about how you are going to operate. The payment options available to you are:
- PAYE through the Agency
- Umbrella Company
- Personal Service Company
PAYE through the Agency
Agencies allow you to become "PAYE" through their own payroll service.
This is the least tax beneficial option available to a contractor as you pay full tax and national insurance (NI) contributions on all your earnings. In addition this option does not allow you to claim valid business expenses that would help to reduce your tax and NI liabilities.
Umbrella Company
An umbrella company provides a ready made invoicing vehicle for contractors whilst also removing the administrative duties normally associated with contracting in the form of a personal service company.
The umbrella company normally issues invoices on the contractor’s behalf, collects payments from clients/agencies, calculates tax and national insurance contributions and pays the contractor their net pay direct to their personal bank account. Additional benefits often included are business expense processing, calculation of annual tax returns and the provision of company benefits at discounted rates (e.g. group personal pension schemes, permanent health insurance, etc...).
Umbrella companies are popular with those who are new to contract work, as it is the easiest and quickest method to start-up.
Traditionally, umbrella companies were a slightly more expensive option to running your own limited company, mainly because their charges included all the administration overheads, and they tended not to offer the same tax advantages.
With the introduction of IR35 the tax disadvantages of umbrella companies have been reduced and a new breed of internet based umbrella companies, are offering a high level service at very competitive prices. This also includes an expense dispensation that allows considerable tax savings on certain expenses without the provision of receipts!
Personal Service Company
The most important aspect of using your own personal service company is to choose a good accountant to help you set it up and manage it on an on-going basis.
Typically, you will expect to pay £65 - £95 per month for a reputable firm. Make sure you find out what this fee includes - beware of hidden 'extras' (such as a £15 monthly charge simply for having a company car).
Many contractors have tried several accountants over the years, before settling for one they feel comfortable with. At some stage, you may feel the need to move accountants for whatever reason - the best time to do this is after a company year-end, since most outstanding paperwork should have been completed by this stage.
Company set-up can cost under £100 and many company suppliers advertise in the trade press. Alternatively, you can apply for a limited company direct from Companies House www.companieshouse.gov.uk but this will take longer.
Many accountants will set up your company for free on condition that you sign up as a client. The process is fast and not as complicated as it may initially seem. If you've found an accountant you're happy with, this is probably the best option.
Once you have formed your limited company, you will need to appoint a company secretary, who fulfils a legal requirement to record company meetings and perform administrative duties. In practice, this role is minimal and should not take up much time during the company year. Many contractors appoint their partner, or a parent.
