subject: How Do Umbrella Companies Work? [print this page] Umbrella companies can sometimes seem a little mysterious to those among us who have not had a great deal to do with them. In this article, however, we'll examine how these companies work and why they are of benefit to both employees and employers (usually recruitment organisations recommending an umbrella company to contractors and freelancers to organise their payroll needs).
Companies such as this in the United Kingdom act as employers to contractors who are hired on a fixed-term contract basis, normally through a recruitment organisation. The key reasons that contractors make use of umbrella companies are to take away the chore of handling the paperwork associated with becoming a freelancer and to reduce their liability.
Such a company would normally issue invoices to the recruitment organisation and once that invoice is paid to the umbrella company, they will in turn pay the contractor via the PAYE (Pay As You Earn) system. Another benefit of using this type of company is that some of the income can be offset through claiming expenses, including accommodation, food and travel costs.
In 1999, the UK government introduced legislation known as 'IR35' which allows for the testing of employment status and ability in order to make use of tax relief benefits enjoyed by small companies. Since then, the use of these kind of companies has increased a great deal.
Taxation
When it comes to tax, these kind of companies use the same PAYE calculations that are used by most other companies across the UK. In terms of how much money the worker takes home, the only difference will be the fee levied by the umbrella company (normally quite small) as well as the level of service offered to the worker (and the recruitment organisation).
Expenses
For those who only know a little about umbrella companies, they will have heard that expenses are a key aspect. Expenses can be claimed for various items, including professional subscriptions, costs associated with accommodation/hotels, as well as general travel expenses and mileage costs. Not all costs associated with food are always allowed as HM Revenue and Customs (HMRC) point out that the worker would eat in any case, whether they are working or not. If a worker had to travel and stay away from home on business, then there might be an exception made to this rule. You can always call an umbrella company or HMRC for advice if you are worried.
While the company offering these services may handle the expenses claims, it is important to recognise that it is the contractor who is liable for these calculations should HMRC decide that they were erroneous.
Umbrella companies have become a key part of the modern British employment landscape and they offer many benefits to both employees and recruitment organisations.
