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Umbrella companies: Common questions and issues explained

Contractors working via umbrella companies like to ensure they are on top of their contracting careers by getting paid on time, claiming all the expenses they are entitled to and understanding their employment rights.

But, according to Lesley Sweetman, Head of Operations of umbrella solutions provider Parasol, misinformation can sometimes cause contractors undue alarm, leave them out of pocket or even result in them facing legal compliance issues.

She explains: “Once a rumour starts that contractors working via umbrella companies aren’t entitled to claim a particular expense, or employment benefit, it can take a lot of hard work to prevent contractors falling foul of expenses rules or failing to benefit from employment rights they are entitled to.”

Based on the hundreds of calls taken daily by Parasol’s Contractor Support Team, Sweetman has created a list of the top eight questions and issues that arise, and explains below how they really do, or don’t, impact on contractors.

1. Why don’t I have a fixed payday?

Pay day dates depend on when the umbrella company gets paid by the agency. This is always after a contractor submits their timesheet, and depends on the payment terms negotiated between the agency and the contractor’s umbrella company. It is therefore not possible to provide a fixed weekly or monthly pay day. However, most umbrella companies will transfer funds on the same day they receive payment, or very quickly afterwards.

2. Why do I need to keep receipts if my umbrella company has a dispensation?

Sweetman emphasises that HMRC-approved expenses limits are a myth and that all contracting expenses, such as travel and subsistence, must be receipted. “A dispensation is not an expenses ‘get-out-of-jail-free’ card from HMRC,” says Sweetman. “When a dispensation is granted to a business by HMRC, it simply means that the umbrella company does not have to provide a separate P11D for each contractor employee. It certainly does not allow contractors to claim expenses ‘allowances’ without receipts.”

3. What is the two-year rule and does it apply to me?

According to Sweetman, the two-year rule (sometimes called the 24-month rule) applies to all workers, including contractors: “When a contractor has been working at the same client’s site, their temporary workplace, for 24 months, or at the point when the contractor knows they will be there for a period greater than 24 months, such as when they have just negotiated a contract extension, that location is reclassified as the contractor’s permanent workplace. The significance of this is that contractors can no longer claim travel and subsistence expenses and offset them against tax.”

4. Why am I paying employer’s National Insurance Contributions (NICs)?

All permanent and contractor workers pay employer’s NICs, but for permanent workers the contributions made by their employers are ‘invisible’. However, for contractors, the employer’s NI contributions are factored into contractor rates. That’s one of the reasons why contractors generally earn more than permanent employees, and contractors therefore pay their own employer’s NICs out of gross fee income.

5. Do I surrender my statutory employment rights when I contract via an umbrella?

“Absolutely not, in fact quite the reverse,” says Sweetman. “Umbrella contractors are employed by their umbrella company and, as with any other employees, umbrella contractors are entitled to the full range of employee benefits, such as holidays, statutory sick pay and maternity and paternity benefits.”

6. Is my IR35 status affected when I contract via an umbrella?

Because umbrella companies employ their contractors, IR35 is completely irrelevant. So, for umbrella company contractors, IR35 is never part of the equation.

7. What’s the difference between business expenses and rechargeable expenses?

For most umbrella company contractors, their regular business expenses are travel to and from their client’s site and subsistence, typically a bite to eat at lunchtime. If the worker is contracting away from home, regular business expenses might include accommodation costs and other meals. These are expensed weekly or monthly and deducted from a contractor’s gross earnings, reducing their tax liability.

So, what of ‘rechargeable expenses’? “These might arise when, for example, a client might ask the contractor to visit its Madrid office, and so will agree to cover the contractor’s flight, hire car and meals in advance,” says Sweetman. “The contractor pays for these expenses out of their own pocket and then includes these costs in the invoice for that week or month, receiving payment in full for the extra costs in addition to their regular time billed.”

8. When I sign up to an umbrella company, do I become an employee?

Contractors joining an umbrella company legally become an employee of that company, with a contract of employment and all the rights and responsibilities that entails, and should always insist on having access to a copy of their contract of employment from their umbrella.

Umbrella contractors are employed by their umbrella company and, as with any other employees, umbrella contractors are entitled to the full range of employee benefits, such as holidays, statutory sick pay and maternity and paternity benefits

Lesley Sweetman, Parasol

That also means contractors can expect no rights from clients. Sweetman explains: “Because contractors working through an umbrella company are its employees, that also means they have no contractual relationship with either the agency or the client. It is the umbrella company which contracts with the agency or client and not the contractor.”

Sweetman concludes: “Full employment underpins many of the classic benefits of becoming an umbrella contractor. For example, if a contractor is not legally employed by their umbrella company, the contractor cannot claim expenses to offset them against tax.

“Employment protects the contractor, the recruiter and the client from all the risks associated with contracting and employing a contractor. If a contractor is working for an umbrella company that does not offer full employment, then they should consider changing provider.”

Published: 01 March 2011

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