Umbrella Company vs Agency PAYE: A Contractor’s Payroll Guide

If being a sole trader or a limited company director is not for you, you have two main payroll options as a contractor: umbrella company employment or agency PAYE. But which is best?

Choosing the right payroll option is essential, especially if you’re new to contracting. This guide covers the key differences and benefits of both to help you decide.

What is an Umbrella Company?

An umbrella company provides employment to contractors who are on temporary, or fixed-term assignments. Umbrella companies act as a link between contractors and their agency or end client. They manage administration, payroll, and necessary deductions, on behalf of the contractor. With an umbrella company, you’ll remain employed when your contract ends, or while you’re looking for a new assignment. So, if you’re working on more than one assignment, your umbrella company contract will continue.

What is Agency PAYE?

With agency PAYE (Pay As You Earn), the recruitment agency employs the contractor for the duration of their contract. Payment is made directly through the agency’s payroll. Unlike umbrella companies, agency PAYE employment ends when the contract finishes.

What’s more, agencies tend to offer lower rates to their own PAYE workers. That’s in contrast to the often-uplifted rates offered to contractors employed by umbrella companies.

Image: Agency PAYE vs Umbrella: key differences explained.

What’s the difference between Umbrella and Agency PAYE?

Before choosing between an umbrella company or agency PAYE, you need to consider factors like cost, benefits, expenses, insurance, HR support, and job continuity. Let’s break down each one to see what exactly is the difference between Agency PAYE and Umbrella PAYE.

Cost Comparison

There’s often no cost to working through agency PAYE for contractors. But, to cover the margin and various employment costs (such as the Apprenticeship Levy), agencies often uplift rates for contractors using umbrella payroll. An umbrella company’s margin is the only thing that should change between providers. For instance, some promise unusually high take-home pay, often by reducing tax and National Insurance. This is an indication of non-compliance and the government’s advice on this is simple: ‘These schemes don’t work. By using them you may be taking part in tax avoidance’.

Therefore, work on the assumption that if it sounds too good to be true (in relation to tax), it’s often because it is. With our umbrella company solution, you only pay a margin when we process your payslip. So, you won’t pay a penny if you’re not working.

Employment Benefits & Continuity of Employment

In both instances, you’ll become an employee of the umbrella company/agency PAYE. Each organisation will take care of your admin and payroll. And, under both options, you will get taxed under PAYE. The difference is, an umbrella company will be your only employer whether you’re on a contract or not. That continuity of employment will help when applying for a mortgage or credit. Whereas, with agency PAYE, each new contract is a different run of employment.

Whether you go umbrella or PAYE, you will have access to statutory employment rights, such as sick pay. Depending on the umbrella company, though, you could also have access to certain medical health plans too. Not to mention pension schemes and discount offers. We could also put you in touch with our financial planning team. They provide industry-leading support for mortgages, insurance, and other financial needs.

Claiming Expenses as a Contractor

Both umbrella employees and agency PAYE workers are paid through PAYE. However, umbrella employees may be eligible for certain work-related expenses. If your agency agrees to reimburse expenses, these are called chargeable expenses. You can claim them through us and offset them against tax and National Insurance, as long as:

• Your agency confirms reimbursement.
• You submit an online claim with VAT receipts.

For expenses not reimbursed by your agency, you may be able to claim tax relief through HMRC via a P87 form or self-assessment. You must, however, retain all receipts as evidence of these expenses.

Insurance & Protecting Yourself as a Contractor

Whichever option you choose, you’re going to need insurance. The better agencies/umbrella companies will provide the cover you need to perform your duties. Some umbrella companies also provide health, life, and accident insurance at no extra cost. For instance, with Danbro Umbrella, you’re covered by Public and Employers’ Liability insurance, as well as Professional Indemnity insurance.

IR35 Compliance

Changes to (IR35) off-payroll working in the private sector came into force in April 2021.

The aim is to prevent individuals who should be viewed as employees, from offering their services through a limited company illegitimately. IR35 impacts those who falsely position themselves as sole traders/limited companies.

So, generally, umbrella company employees and agency PAYE workers are outside of IR35.

HR Support

Employees should have access to internal HR support as and when they need professional advice or guidance. This includes anything from notice or pay disputes, to unfair dismissal. The quality and reliability of this support varies depending on the employer. However, whether you go umbrella or agency PAYE, you need to factor in potential periods of difficulty.

For instance, whilst an agency gets paid by the end client, an umbrella company receives their income from the contractor (margin). So, there’s an argument to suggest that it’s easier for them to act in your best interests.

Is Umbrella better than Agency PAYE?

So then, we’ve compared Umbrella Company and Agency PAYE, but which should you choose? Generally speaking, if you:

• Work on multiple contracts simultaneously
• Want the benefits and security of continuous employment
• Are likely to claim for travel or subsistence expenses

Umbrella company employment is the best option for you. Umbrella companies can also offer extra benefits such as employee discounts.

Alternatively, if you:

• Intend to contract for a short period – taking on one or two contracts (not at the same time) before going back into permanent employment
• Want to get paid and get your contracts sourced by the same organisation, i.e. no third party

Agency PAYE could be a better route for you.

How do I get paid through a PAYE umbrella company?

Umbrella Companies like Danbro Umbrella administer your payroll and benefits. Here’s how it works.

Umbrella companies operate as employers on behalf of their contractor employees. It works like this:

1. The agency/end client pays a contractor’s ‘contracted rate’ to the umbrella company.
2. The umbrella company takes care of the statutory employment costs on behalf of the contractor. They work out the contractor’s total gross pay.
3. They then pay statutory deductions, such as Income Tax and NICs, to HMRC before the contractor receives their net take-home wage in the same way as a permanent employee.

Umbrella companies shoulder the legislative and administrative burden of payroll – not you. It’s the hassle-free approach to contracting.

Self-Assessment or PAYE?

You may also consider self-assessment as an alternative to umbrella or PAYE. With an umbrella company or agency PAYE, taxes get deducted before you receive your wages. On the other hand, those on self-assessment are required to pay the tax they owe either monthly, quarterly, or annually themselves.

With self-assessment tax returns, it’s best to seek the help of an accountant or tax specialist. Self-assessment can make it harder to manage your income, with the need to keep finances aside for lump-sum payments as and when required.

Feel free to speak to one of our team if you have any questions or concerns – Contact Us!