Contracting Through an Umbrella Company: Dispelling Common Myths

Are you going to work through an umbrella company? You have probably come across many misconceptions regarding the use of umbrella companies. As you may already know, there are quite a few myths surrounding umbrella companies which make it difficult to separate truth from falsehood. Compare Your Pay is here to help you navigate through all the myths surrounding the use of umbrella companies and to set the record straight. Our guide will help you make an informed decision on whether an umbrella company is the right choice for you or not.

Myth 1: Umbrella Companies Are a Scam

That’s wrong. Umbrella companies are perfectly legitimate organisations for managing contractor employment. Such companies allow workers to provide short-term assignments under a longer-term employment contract. They allow contractors to enjoy the security and many benefits of regular employment, but also to work on multiple assignments. Umbrella companies that are reputable issue formal employment contracts, guarantee statutory rights and benefits, and give clear and upfront information over pay.

Umbrella companies take care of important aspects of contractor employment, including the calculation and payment of tax and National Insurance contributions, potentially a relief for contractors who would prefer to be left to get on with their work rather than do the paperwork. Umbrella companies also provide reassurance that the contractor is operating within the UK employment law framework.

Myth 2: Umbrella Company Contractors Do Not Receive a Pension

This is not correct. All umbrella company contractors are eligible for a pension in the same way as every other employee in the UK. Under the Pensions Act 2008, umbrella companies have to provide a pension scheme and automatically enroll contractors into it.

This automatic enrolment means that contractors can benefit from employer contributions into their pension, complementing their own contributions to improve long-term financial security. Many umbrella companies also provide access to financial advisers, helping contractors make the best decisions about pension contributions and retirement planning.

Myth 3: There Are Hidden Charges

Another concern is hidden charges, especially regarding Employer’s National Insurance (NI). However, when working through a reputable umbrella company, how your gross pay is calculated and how employment costs are deducted from the assignment rate will be clearly explained (gross pay is not reduced by Employer’s NI, it is an additional cost to the employer).

Other than that, you must pay margin to the umbrella company, which is always clearly displayed in your payslip. The margin covers services such as:

• Client invoicing on your behalf

• Payroll processing and tax compliance

• Comprehensive insurance coverage

• Stability in your contract; access to statutory benefits, health insurance, same-day pay and the ability to buy further holidays.

• By spelling them out explicitly, umbrella companies help their contractors to make informed choices about their contractual set-up. 

Myth 4: Umbrella Employment is the Same as Self-Employment

This is a common illusion. Contracting via an umbrella company might look like freelancing – indeed, it usually does – but the contractor is an employee of the umbrella company, which handles the payroll and tax responsibilities.

The difference is really in the status: self-employed are accountable for their own business affairs – raising invoices for clients, recording expenditure and submitting self-assessment returns on an annual basis, whereas umbrella company contractors are in employee status, with umbrella company making all tax and national insurance contributions, and providing payslips, so they can focus on the job in hand, rather than getting bogged down in administration and compliance.

Myth 5: Umbrella Company Contractors Can’t Claim Expenses

Wrong. While the system changed in April 2016, if your umbrella company is a ‘fee-payer’ you can still claim tax relief on certain expenses. Training, accommodation, equipment and travel can be deducted from your gross income which in turn reduces your tax and National Insurance (NI) liability, increasing your take-home pay.

The contractor can follow the expense-claiming rules of their umbrella company, which should be structured to ensure that they are keeping within HMRC’s rules. This means that, with accurate records and receipts, the contractor can claim tax relief while avoiding the risk of problems with the tax authorities. 

Myth 6: Umbrella Company Contractors Miss Out on Benefits Offered to Permanent Employees

This is actually wrong. Umbrella company contractors have the same statutory employment rights as any other employee in the UK. Their holiday pay, sick pay and maternity or paternity leave entitlements are all protected, as are their employer pension contributions. Contractors are generally not worse off than permanent employees.

In return, the umbrella pays the contractor via PAYE – meaning the contractor receives statutory sick pay if they get ill, paid holiday leave, and the security of knowing how much they’ll be paid each week or month.

Myth 7: Umbrella Company Contractors Are Not Affected by IR35

This is true. IR35 legislation, which seeks to stop tax avoidance by ‘disguised employees’ who work through a limited company but are essentially employees, does not apply to contractors who work through an umbrella company. Since the umbrella company is your employer, you will not be subject to IR35 rules, which means you avoid the financial and legal risks of IR35.

Umbrella companies allow contractors to benefit from employment without having to grapple with IR35 compliance, and all tax and NI payments are taken care of.

Ready to Take the Next Step?

Now that the myths surrounding umbrella company providers have been busted, you may want to search for an umbrella company provider that’s right for you. If so, please Contact Us and Compare Your Pay will suggest some umbrella company providers who can assist you. 

An umbrella company can make contracting simple, quickly onboarding you to provide financial and administration support, alongside full compliance with UK employment law. Our team is excited to help you during your journey.

For more information, please see our in-depth guides on umbrella company expenses, umbrella company workers’ benefits and umbrella employment realities. We’re here to help you make informed decisions and make the most of your umbrella company contract. Get in touch with us today to kick-start your umbrella career.