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What is an umbrella company?

What does an umbrella company do, and should you use one?

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You’ve probably heard the term ‘umbrella company’. But you may be wondering, what is an umbrella company and what are the risks associated with using one?

What is an umbrella company?

An umbrella company is a business used by companies, such as recruitment agencies, to temporarily employ workers who would otherwise be classed as independent contractors. It’s estimated that 14% of the UK’s professional contractors manage their business via umbrella companies.

Umbrella companies pay temporary workers through PAYE and function as the worker’s employer. But the actual labour carried out by the worker, is for the clients of the recruitment agency – and the worker is usually employed for a limited time. The umbrella company issues invoices to the recruitment agency or their client, and upon payment of these invoices, the umbrella company processes payment for the worker.

What are the benefits of using an umbrella company?

When everything is handled correctly, there are benefits to using an umbrella company – for both workers and recruitment agencies.

For workers, the benefits include:

  • Handling of tax
    • Managing one’s own taxes can be stressful, and it’s generally much easier to have all deductions managed by an employer. But if the umbrella company is handling all taxes, both the agency and the worker are trusting that the umbrella company will ensure they’re compliant with all local tax laws.
  • Employee benefits
    • As an official employee, as opposed to an independent contractor, the worker is entitled to benefits such as paid time-off, health insurance, and/or pension schemes.

For companies, the benefits include:

  • Correct employee classification
    • If a company is found to have misclassified their employees, they can be subject to large fines and even criminal proceedings. Ensuring that workers are properly classified means avoiding these risks.
  • Expanding abroad
    • If hiring abroad, using an umbrella company already based in-country can eliminate breaches of local employment law and tax regulations, as well as providing local intel and know-how relating to the hiring process.

What are the negatives of using an umbrella company?

While there are benefits, it’s not always the best option for companies or workers.

For workers, the negatives include:

  • Not as many tax benefits
    • If the worker is used to working as an independent contractor and, therefore, writing off certain items as expenses, they’ll no longer be able to do this while employed by an umbrella company – even though the actual work they’re doing is temporary.
  • Fees
    • Umbrella companies take a fee from the worker for their services, meaning that the worker pays the umbrella company in the region of £20 to £30 per week.

For the company, the negatives include:

  • Complex hiring structure
    • By using an umbrella company, a business will most likely have to partner with a recruitment firm, which may be a more complex and costly hiring process than they wish to undertake.
  • Not an Employer of Record (EoR) service
    • It’s important to remember that if you’re using an umbrella company abroad, they do not provide a comprehensive HR service, but rather a very basic HR and payroll system.

What are some of the common issues associated with using an umbrella company?

There are various risks issues associated with using umbrella companies. Leading employment expert Rebecca Seeley Harris highlights some of the key issues – noting that, “The umbrella company industry is currently unregulated, so there are various scams that non-compliant companies get involved in.”

Seely Harris advises to, “Do your due diligence and make sure that the umbrella company is compliant. Make sure that the umbrella company is a member of an accrediting organisation, like the FCSA, and that they are not on HMRC’s list of tax avoiders.”

Some common issues associated with umbrella companies include:

  • Mini-umbrella companies, or MUCs
    • Mini-umbrella companies are criminal tax avoidance structures and should be avoided at all costs. According to UK Government guidance, a fraudulent supply chain can cause reputational and financial damage to businesses and leave workers undercompensated and unsupported.
  • Non-compliance
    • Rebecca Seeley Harris also notes that when suing an umbrella company, it’s important to be certain that it has a holiday pay policy in place, along with all other appropriate benefits. She recommends ensuring the use of a payslip auditing system such as SafeRec, to ensure that all the correct deductions are being made.

Should you choose an umbrella company

Rebecca Seeley Harris says that as long as you’ve confirmed that the umbrella company you’ve chosen to use is fully compliant, then there’s no issue with utilising its services. However, you may be looking for long-term support, as well as thorough HR and payroll management which is 100% compliant in all areas and completely au fait with all local law and tax regulation in your chosen location. Enter: an Employer of Record (EoR) service, which could be better suited to your needs.

For more on how Mauve Group can help your business to expand internationally, contact us and speak to a member of our expert team.