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Limited Company Or Umbrella Company? Which Role Works Best For You | CMME Explains

Limited Company Or Umbrella Company? Which Role Works Best For You | CMME Explains

March 17th, 2021

Limited Company Or Umbrella Company?

With IR35 now just around the corner, you might have questions about your role – limited company or umbrella company – and the options you have ahead of you.

In essence, the work you do won’t be any different, no matter your role, but the way you’re taxed, paid, and the benefits you have might change.

This is important to account for when you’re thinking about your mortgage plans.

What’s In The Blog?

  • What Is A Limited Company?
  • What Is An Umbrella Employee?
  • Contractors Working As Limited Companies
  • Contractors Working Under Umbrella Companies
  • Which Works Best For You – Limited Company or Umbrella Company?
  • Your Company Type & Your Mortgage
  • How Might Being An Umbrella Employee Affect Your Contractor Mortgage? 
  • Useful Resources

What Is A Limited Company?

Let’s go back to basics.

The government website outlines a Limited Company as being:

A company ‘limited by shares’ or ‘limited by guarantee’.

Limited by shares

Limited by shares companies are usually businesses that make a profit. This means the company:

  • is legally separate from the people who run it
  • has separate finances from your personal ones
  • has shares and shareholders
  • can keep any profits it makes after paying tax

Limited by guarantee

Limited by guarantee companies are usually ‘not for profit’. This means the company:

  • is legally separate from the people who run it
  • has separate finances from your personal ones
  • has guarantors and a ‘guaranteed amount’
  • invests profits it makes back into the company

According to recent House of Commons Business statistics in 2020 there were six million small/medium enterprises (SMEs) operating in the UK. Of those, approximately two million were limited companies.

An independent contractor working solely for themselves as a contractor or as a limited company means they are responsible for paying themselves a salary and completing a self-assessment tax return each year.

Many individuals choose to become independent contractors and run limited companies because it provides the freedom to work how and when they would like to, instead of in the confines outlined by a business. In this mode of working, you’re in control – that means insurances, savings and pensions all fall into your hands.

What Is An Umbrella Employee?

The statistics around umbrella employees are not so clear. There’s a number of reasons for this, though at the forefront is that the popularity of umbrella companies has grown most noticeably as a result on the recent legislative changes surrounding IR35.

To summarise briefly, an umbrella employee is a contractor working on temporary assignments or contracts employed by an umbrella company.

Joining an umbrella company can offer contractors some increased flexibility alongside the rights and benefits a permanent employee would typically receive like HR & tax calculations.

Many contractors choose to enlist the services of an umbrella company because of the relative ease that this provides when dealing with their pay and tax.

We’ve outlined some of the key areas you might want to consider about your role type in the table below – from how you pay your taxes to timesheets, there are lots of ways your employment position can affect your day to day.

ConsiderLimited CompanyUmbrella Employee
Your StatusYou are the director of your own company.You are an employee of the umbrella company.
Paying TaxesYou are responsible for ensuring your company and personal taxes are paid on time.The umbrella company deducts taxes before you are paid.
InsuranceYour company needs to pay for business insurances (e.g. Professional Indemnity)Insurance cover is typically included in umbrella fee.
Timesheets / InvoicesYou invoice the agency for work done on behalf of your company.You submit your timesheet to the umbrella. The umbrella invoices the agency.

Many contractors are confused about whether they would be better off working under an umbrella company or going it alone and setting up as a limited company.

The honest answer is that there are pros and cons for both, but what are they and which route would make your business the most profitable and which makes your life easier?

Contractors Working As Limited Companies

A limited company is a separate legal entity and you are employed by the company. First of all, you must form the limited company and open a business banking account to receive and make payments on behalf of the company.

The director must decide how much they want to be paid by way of salary or dividends or a mixture.

Dividend payments are the most tax efficient way of taking income from the company, because corporation tax payments are taken into account and a dividend tax credit is available meaning those under the 10% threshold would have no dividend tax to pay after corporation tax has been paid.

Directors of limited companies can also claim many benefits, reliefs and expenses.

Check out CMME’s guide to mortgages for company directors here.

Contractors Working Under Umbrella Companies

Contractors who work via an umbrella company are not classed as self-employed but are seen as an employee of the umbrella company and so they pay tax via PAYE.

This route is potentially not as tax efficient as a limited company, because you will have to pay the income tax rates set for individuals in the UK and cannot claim the same tax reliefs and benefits as if you are operating via a limited company.

The main advantage of using an umbrella company is that it massively reduces the amount of administration that you need to do while working as a contractor.

The umbrella company take the tax and NI contributions off your income before you receive payment in the same way that any employer would, and so the removes the need to save up for tax payments.

Which Works Best For You – Limited Company Or Umbrella Company?

As with any role, there are pros and cons for each type of setup. The way you work and the set up that you choose will ultimately affect your happiness, your work and your income and so it’s essential that you have the set up that works best for you.

Pros & Cons Of Working As A Limited Company

The Pros

  • More tax advantages and ability to reduce tax bill.
  • More expenses, reliefs and benefits available.
  • Flat rate VAT scheme available.
  • You are in control of the finances and no handling is required by an intermediary.
  • Running your own business isn’t difficult; submit spreadsheets to your accountant – just like umbrella time sheets and expenses.
  • Greater opportunity for tax planning than PAYE Umbrella

The Cons

  • Larger amounts of administration.
  • An expensive way of contracting if you return to employment shortly afterwards.

Pros & Cons Of Working Through an Umbrella Company

The Pros

  • A more simplified way of working as a contractor.
  • Tax and NI is deducted at source so no HMRC bills.
  • Shorter term contracts easier to deal with.
  • Great for contractors who have not reached the higher rate tax threshold.
  • Good if you are unsure if contracting is for you and you’re really just in between permanent jobs.
  • Someone else will be doing all the paperwork

The Cons

  • Potentially not tax efficient.
  • Must rely on the umbrella company to obtain payment for work.

Your Company Type & Your Mortgage

Sole Trader Mortgages

When working as a sole trader, ideally lenders will want to see at least one years’ trading history, though most will want to see two years’ history – and some may even want three. The take-away point from this is that the more evidence of successful trading that you have, the more lenders your mortgage advisor can consider.

Limited Company Mortgages

If you operate as a limited company, your income will probably consist of a salary and dividends. Lenders will need to consider both as your income for your mortgage application. In some instances, though there is no guarantee, lenders may be able to use your operating or net profit in addition to your salary.

Partnership Mortgages

With partnership mortgages, lenders will assess your income according to your share of the profits.

How Might Being An Umbrella Employee Affect Your Contractor Mortgage? 

Though joining an umbrella company can provide benefits when dealing with your income, it can also present potential issues when attempting to raise funds for a mortgage. During the process of completing mortgage underwriting, you are likely to be asked for evidence of your income.

Many contractors that have experienced this process will be aware that lenders do not fully understand the process used by the umbrella company to manage the income.

This often leads to a request for:

  • three months’ payslips
  • a P60 to be provided

The problem with this is that a lender will only take into account the basic pay received and evidenced on the payslip. Some umbrella firms choose to split the regular income to also include partial payments, such as holiday or commission payments.

Mortgage lenders will often discount these payments when assessing your affordability and therefore the income used for assessment will not include the full pay received. This can dramatically decrease the level of lending available when applying for a mortgage.

This is one of the many reasons it can be worthwhile for Contractors to consider a specialist mortgage broker like CMME where using a bespoke process means that we can not only help you to raise the borrowing you require for a mortgage, but it also provides you with access to high street lenders and therefore gives you the range of low-level interest rates that would normally be unavailable when looking at a PAYE contractor mortgage.

Good Reasons To Think About Your Mortgage Plans Now

There are a lot of factors that mean it is a great time to think about your mortgage plans in the coming months.

First and foremost, IR35 may change the way you work and subsequently your income, it’s worth thinking about whether this legislation will change your role and if so, whether you wish to pursue your mortgage plans ahead of any changes you might be positioned to make once this comes into play at the end of this month.

In addition to this the Stamp Duty holiday has been confirmed by Chancellor Rishi Sunak at the start of this month meaning there is still time to benefit from the associated savings before the end of June 2021 when the holiday is currently due to end.

Here’s What Simon Butler, The Head of Mortgages at CMME, had to say on the Stamp Duty holiday extension:

“As the chancellor plans to extend the stamp duty holiday, this can only be a positive thing for those caught short by the previous announcement. In particular our self-employed client base has struggled to take advantage due to the IR35 implementation and uncertainty around renewals of contracts and job security.

The key reason for suggesting moving with haste is that there is currently no clear sign the extension will cover a full three months for all applicants. As a positive for self-employed that can now see a clear path forward, in terms of securing work and mitigating concerns after settling their post-IR35 affairs, this news provides a chance to take advantage of the holiday.

The timing also coincides with mortgage lenders offering a larger range of 85-90% mortgage products, along with reductions in interest rates to entice buyers back to market. 

Many of us will be watching with keen interest to hear what else the Chancellor has in store for the next 6 months. It is hoped that further financial incentives will be offered to boost the economy, as national optimism hesitantly returns with the Governments lockdown exit plan taking shape”.

Steps to Mortgage Success


Useful Resources

Whether you want to talk specifics or are just after some general advice, CMME can help. Speak to us today on 01489 223 750 for a completely free, no-obligation mortgage consultation. Or click the button below.

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