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New to Contracting: Limited Company or Umbrella Company service?

Guest post by: Bill Wynn

Article Overview: Bill Wynn, Managing Director of Project Resource Limited discusses the advantages and disadvantages of limited company or umbrella services for contractors working freelance.

New to Contracting: Limited Company or Umbrella Company service?

First time contractors (i.e. freelance/ interim workers) entering the contract market need to decide how to initially structure their payments. There are two options: Limited Company or Umbrella Company. The option suited to you will depend on your circumstances.

If you decide to go down the Limited Company route then you'll need to start forming your company as soon as you sign your first contract. This will ensure you can then raise invoices and set up your company bank account.

Having chosen a company name you'll need to check that it is available.



Limited Company or Umbrella Company? Advantages and disadvantages of each solution.

Limited Company: Advantages

• Complete control of all transactions and company matters.

• You can be seen to be "representing" the company and "running a business" with its own trading name.

• Full control of revenue. Paid directly into the company bank account, rather than passing via an umbrella company bank account.

• Faster payment and administration process due to direct control, assuming you deal efficiently with all transactions.

• Smaller tax burden (higher percentage net pay) for contract revenue earned outside of the IR35 legislation.

Limited Company: Disadvantages

• Main disadvantage is the amount of administration/ paperwork arising, particularly in the late filing/ payment penalty culture.

• Responsible for day-to-day issues as invoicing, keeping a simple accounting system and fully liaising with your accountant, to ensure all forms, returns and accounts are filed by the due dates.

Many contractors, particularly first timers do struggle with these responsibilities, so most opt for the umbrella service.

Umbrella Company: Advantages

• Avoids time and trouble of running a limited company. After a simple set up, you complete timesheets and forward to the umbrella company.

• Knowledge that money is lodged into your bank account and documents are sent to you explaining how the payment is calculated. No need to be involved with running a spreadsheet, VAT returns, payroll matters, company accounts, taxation, etc.

• For short-term contracts, a main advantage is not having the costly process of forming a company and then arranging for it to be dissolved.

Umbrella Company: Disadvantages

• You will by definition not be running the company and will therefore be using it simply as a service to process transactions.

• You cannot represent yourself as running your own independent business, through which you can make policy decisions, take risks or act as company director.

• There is inevitably some delay in receiving money (between 24 hours to 1 week), since it needs to pass through a third-party account before reaching you. This is down to the efficiency of the umbrella company.

• There is an element of trust on the part of you, since your money will be passing through the third-party umbrella company bank account.

• For contracts earning revenue outside IR35 there is a higher tax burden than using a Limited Company, due to the Managed Service Company legislation (introduced in 2007 Budget).

In conclusion

In making a decision, you should consider the following criteria:

1. IR35 status. If the majority of the contracts are likely to be outside IR35 then from a tax perspective the Limited Company is the sensible option for long-term contractors.

2. Company Control. How important is it to control the company? If important, take the one person company director route.

3. Presentation/ status. How important is it to be a company director for presentation/ status with third parties? If it is important, then the one person company should be taken.

4. Administration. Attitude to administration, including dealing with forms, returns, correspondence with accountants and other third parties, spreadsheets, VAT returns etc. If this is not a problem, then take the own company route, but if it is likely to be a problem, then take the umbrella route.

5. Length of contracting. If it is a long-term contract, a one person company may be preferable. If it is short-term or dependent on factors which may change in the short-term, then an umbrella company solution may be preferable.

6. Borderline case. If the decision to go own limited company or umbrella is a difficult one for a first time contract, then it would be best to go with the umbrella company solution for at least the short-term. The reason for this is that it is very simple to leave an umbrella company and start-up your own company, but very much harder in terms of administration and expense to go from your own company to an umbrella.

Making the Right Choice

Making the right choice will always depend on your consideration of the above criteria.

Making the right decision based on your own circumstances and requirements will achieve the most efficient result. There is no "always right" or "always wrong" solution, both methods will work for you and achieve a similar result but with different working arrangements.

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Article Tags: advantages and disadvantages, bill wynn, contracting, freelancing, limited company, project resource, umbrella company



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