What Is an Umbrella Company?

An umbrella company may appear like a good option to explore if your company wants to hire independent contractors or temporary workers. But what do you need to know?

What is an umbrella company?

An umbrella company is a popular choice in the United Kingdom as a medium of employing agency contractors working on temporary or fixed-term contract assignments.

The umbrella company (also known as PAYE umbrella) acts as an intermediary between the contractor and the recruitment agency (or the end client).

The payroll is handled by umbrella companies through PAYE — which deduct relevant taxes, national insurance contributions, and pensions before paying the contractor.

Umbrella companies have become more common in the UK, especially leading up to the government’s implementation of IR35 legislation.

It is extremely crucial to choose an umbrella company that is compliant with tax obligations. Non-compliance could land you in serious trouble with the HMRC in the UK.

According to research by the UK government, the most common sectors working through umbrella companies are temporary employment agencies, consultancies, and business support services.

How is the IR35 legislation related to umbrella companies?

The IR35 legislation was introduced in the UK to bring “disguised employees” under the government’s tax radar by making the employing company liable for ensuring proper contractor classification and reporting of income.

The government was concerned that contractors would often use intermediary companies to receive payments from their clients in order to avoid tax, or taxable income was going unreported. In an effort to reduce the chances of this, the IR35 legislation was introduced.

The UK government started issuing tests to determine employment status and contractor qualification. The new rules are set to come into effect in April 2021.

All large and medium-sized businesses will be responsible for classifying the employment status of contractors with PSCs (Personal Service Companies) and will be required to follow a new set of administrative procedures to ensure compliance.

You can read more about the IR35 legislation and what the changes mean for contractors here: What Do Changes to UK Off-Payroll Working (IR35) Rules Mean? (globalization-partners.com)

Are umbrella companies good for workers?

There have been criticisms of umbrella companies’ treatment of the temporary workers they employ.

Contractors requiring temporary services of any kind, like construction, for instance, hand over the wages to umbrella companies, which in turn pay the worker.

However, investigations have found that umbrella companies have often forced workers to pay employers’ national insurance and holiday pay that they were supposed to pay on behalf of the worker, adding illegal deductions to their wages.

Some employees find a benefit in working through an umbrella company to make it easier to work for multiple employers at one time. HMRC said signing up and working for some umbrella companies could leave workers facing large and unexpected tax bills due to the questionable way they bypass some taxes, promising workers a higher take-home pay.

The UK government has heavily cracked down on non-compliant employment agencies that are directing clients to umbrella companies — which are, in turn, operating tax avoidance schemes. If found guilty of tax evasion, the UK government and HMRC are likely to charge corporate criminal offences.

How can companies hire workers without risk?

A safer and more compliant option for both employers and employees is an Employer of Record (EOR).

An EOR provides a compliant, global infrastructure so you can identify the candidates you wish to hire, then the EOR issues a local employment contract (complete with a competitive benefits package), and puts them on a locally compliant payroll. The EOR takes on the legal responsibilities as the employer, but the employee works full time for the EOR’s customer.

Umbrella Co. vs. EoR: What’s the Difference?

• Umbrella companies:  One company serves as the umbrella organization and sub-contracts employment to providers in each country or establishes independent contractor relationships with workers. These (usually small) providers are not built to scale, and there is a high risk of them not having the legal, tax, and HR know-how required for a public multinational company that is outsourcing its global legal infrastructure to a third party.
• Employer of Record: One company owns the entire employment infrastructure in each country and employs professionals within its own entities for its customers.

Here are the major differences between umbrella companies and EOR companies:

Get in touch with us at Globalization Partners if you have any questions surrounding classification of contractors or compliance.