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Limited Company VS Umbrella Company

Set up a Limited Company or use an Umbrella Company?  This is one of the most common questions asked by new contractors and one that still puzzles many, even established contractors.

As a contractor accountant that offers both umbrella company and limited company accounting services, Nasa Consulting is well placed to help answer the million dollar question.  Our advice will centre around what is best for you not what is best for us and we can help you make the right choice.

To help you make your decision, we take a look at the advantages and disadvantages of both services.  We hope this will help dismiss any myths and help you decide which option will suit you better.

Limited Company

Who may benefit?

Contractors who are on a higher pay rate, a longer term contract and a more senior role may benefit more from forming a limited company.  Any potential tax savings would be subject to IR35 status.

What are the advantages of a Limited Company?

There are many advantages to forming a limited company.  These not only extend to extra tax savings but to expenses, business development and limited liability.  The main advantages are summarised below;

• Tax Savings         -    providing you fall outside of IR35 you can stand to retain up to 20% of your income by utilising a limited company for your contracting.
• Other savings      -    savings from VAT, including family members and simple drawing strategies can see even more value added to your business’s bottom line.
• Company Tax      -    Small companies with profits below £300,000 pay tax at just 21%.  This is opposed to basic rate income tax of 20% or higher rate of 40% or Self Employed NICs of 8%.
• Limited Liability  -    you are not personally liable for any of the debts in the company, only to the value of any investment you made in the business.
• Expenses            -    as a genuine business there is much greater scope for business expenses.  This extends to capital assets (e.g. computers and work tools) as well as the standard travel & subsistence allowances associated with an umbrella company
• Pension -  greater opportunities for investment using company funds and pension contributions from the business

What are the drawbacks to a Limited Company?

There are, as in any walk of life, some slight drawbacks to running your own limited company.  These are outlined below for you;

• Administration    -    there is a slightly larger amount of admin to do as a company director.  You will, as with an umbrella company, need to complete expense forms each quarter.  You will also need to sign returns and manage the company bank account.  This will be no more than a couple of hours per month.
• Responsibility      -    you will have responsibilities as a company director that must be fulfilled each year.  If you do not then you may be subject to penalties.  A responsible contractor accountant will ensure you do not fall foul with this.

Summary

A limited company provides contractors with a fantastic opportunity to reduce their tax liabilities and build up their own business.  However, certain criteria must be met first.  It is also essential that you retain a professional and experienced contractor accountant to assist you with the limited company accounting requirements and IR35.

Umbrella Company

Who may benefit?

Any contractor may use an umbrella company.  However it may be better suited for those contractors who are on a lower pay rate, a short term contract, those who are maybe averse to admin or who need more flexibility from their solution.   

What are the advantages of an Umbrella Company?

An umbrella company brings the most of the benefits of a limited company without the extra admin and responsibilities that comes with it.  Although not as tax efficient as a limited company, you are able to claim certain business expenses to offset the tax you pay.  Your status is ‘employee’ so you do not have any risk of either the MSC or IR35 legislation.  The main advantages are outlined below:

• Employed            -    you are ‘employed’ through the umbrella company with all earnings subject to PAYE and NICs.  This means that IR35 and MSC do not apply to you.
• Low Admin              -        low admin input required.  Only timesheets, expenses and receipts need to be sent to the umbrella company.  Everything from invoicing to payments is done for you.
• Low Fee             -    a low weekly fee is charged only during time when you are working. 
• Flexibility            -    No joining or leaving fees and no minimum tie in or notice period.
• Expenses            -    travel and subsistence costs are claimable for tax relief to help reduce the amount of tax you pay.
• Insurance            -    are included as part of the service fee.

What are the drawbacks to an Umbrella Company?

As with a Limited Company, there are also some downsides that can be associated with using an umbrella company.  Some of these are outlined below for you;

• Tax Efficiency          -        not as tax efficient as a limited company meaning you pay more in tax and NICs.  Thus you don’t retain as much compared to going ltd.
• Expenses            -    as an employee the scope for expenses is less than with your own limited company.  You are generally restricted to claims for travel, subsistence, stationery, subscriptions etc.  Items such as laptops, software or clothing are not allowable.

Summary

An umbrella company is perfect for a whole range of contractors, especially those who don’t know how long they will be contracting for.  It is a low cost, admin free service that allows you to increase your take home pay with business expenses.  While not as tax efficient as a limited company, it is a popular and flexible alternative.

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