IR35 what you should know
Category: Limited Company | Jun 9, 2019
IR35 is the HMRC legislation aimed at anyone operating as a Limited company as a consultant or contractor and in this article are things to know as a Limited company and ways to avoid the pitfalls
When you’re a contractor, it can be hard to decide how to conduct your business. Do you work with an Umbrella Company or do you trade as Limited Company? What are the pros and cons of each option? And are there other options?
If you’ve already done some research you’ll know that there’s a lot of information out there. It can seem a little overwhelming, so we’ve put together a handy guide to help you to decide what’s right for you.
How does an Umbrella Company work?
In essence an umbrella company is an employer of contractors that provides the services of those contractors to clients.
Umbrella companies deal with the administration for contractors, which means the only thing the contractor needs to do is to sign up and to submit timesheets and expenses.
Normally a contractor’s assignment is handled by an agent, in which case the umbrella will deal with the agent rather than the client.
As an employee of the umbrella company your contractor income would be processed through their payroll. This means that you’d receive your income after deduction of income tax and employees’ national insurance. You will also be charged for the employer’s national insurance contribution – up to 13.8% – a cost that a “normal” employee would not have to bear. You will be able to deduct certain business related expenses from your taxable income, although restrictions on claiming travel expenses will be introduced from April 2016.
Finally you should allow for the umbrella company service charges. These can vary, but they are normally in the range of £25 to £30 per week.
Becoming a Limited Company
The main alternative option is for you to provide your services through a limited company. This structure gives you full control of how you manage your business and has the potential to reduce significantly the tax you pay, if your contract falls outside IR35. You save tax because you can take some of your income as dividends, which are taxed at a lower rate than a salary. This structure is flexible enough to accommodate the situation where some of your contracts are inside IR35 and others are outside.
On the downside, there is additional administration needed to run a company. In reality, the volume of transactions to record are likely to be low and a good accountant will deal with all the regulatory stuff (e.g. setting up the company and preparing the accounts, payroll & VAT). Therefore the additional burden to you of running a company should not be significant. In terms of accountancy costs, these should be broadly similar to umbrella company charges.
So, who should consider using an Umbrella Company?
Umbrella companies are most useful for anyone who:
Is unsure about contracting in the long term. A contractor can be set up quickly with an umbrella company without any long term commitment (check for any exit fees, though).
Does not want the hassle of running their own company.
Cannot act as a director (e.g. because of disqualification), but needs to operate through a limited company to secure contract with client.
Are there any other ways to contract?
Yes, you could contract as a sole trader. This option is becoming less common because there is a risk that such contractors could be deemed employees and then the agent or client will be liable for taxes owed. Therefore most agents/clients insist that the contract trades through a limited company.
What about schemes that promise a high take home pay?
You’ll come across adverts by providers who promise a take home pay of 85%, or more. Such statements should be treated with caution for the following reasons:
Any % figure quoted is meaningless as it depends on a number of variables such as level of income, expenses, pension contributions, dividends taken etc. If your income is low enough, you can be guaranteed a take home pay of 100%, because there are no taxes to pay!
Any provider that really can offer 85% on a high income, say £100k, could only achieve this through tax avoidance structures. These are often complex and contrived schemes which come with promises of being fully compliant, often supported by an opinion from a tax expert, such as a tax barrister. Our views on this are as follows:Some of the schemes marketed may in fact be illegal. Others, though legal, may be under scrutiny from the HMRC.
Even experts get it wrong: just look up the number of tax avoidance schemes that have been shut down. Many had an opinion from a tax expert.
If the scheme is found to be invalid, HMRC will claw back all the underpaid tax with interest and penalties.
So our advice is: Beware
At Beans we’re experts when it comes to helping contractors make the right choices. Each option has its own pros and cons, but you can be sure that before we make any recommendations, we’ll work closely with you to understand your individual circumstances and working requirements.
We don’t offer our own umbrella company, but if that is the best option for you we’ll say so. There are many professionally run umbrella companies out there and we’re happy to provide you with guidance.
If you decide to operate through a limited company we can help with company formation, IR35, tax and accounting. Our fixed price packages are designed to provide you with all your tax compliance and regulatory needs.
And you always have access to one of our experienced accountants.
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