Why Use an Umbrella Company? Pros, Cons and Alternatives

If you are looking into new ways to approach contracting, you’ve probably come across umbrella companies. There are a fair few umbrella companies around, all of which offer a similar service to contractors and help to simplify the admin side of running a business.

At Umbrella Search, we know that using an umbrella company can be daunting, especially if you haven't used one before. But, with our guidance below, you’ll be fully informed.

Why Use an Umbrella Company?

There are a handful of ways to approach contracting but, for a lot of professionals, working with an umbrella company is the ‘go to’ choice. When you do, you become an employee of the umbrella company, and they become your employer. This doesn’t mean you suddenly stop becoming a contractor - you’re still in charge of the projects you take on, the clients you work with and your work schedule - but it does mean handing over the administrative side of things to a team of experts. 

Umbrella Company Responsibilities

An umbrella company is responsible for sending invoices to your clients, deducting Income Tax and National Insurance through PAYE, and ensuring you’re compliant with HMRC regulations. They also take on the burden of navigating IR35 rules. Though working with an umbrella company does mean handing over some control, you can enjoy peace of mind, knowing that your income, taxes and compliance are all being handled professionally. 

Umbrella Company Advantages: The Benefits to Contractors

There are many advantages to signing up to an umbrella company, which is why it’s a route many contractors take.

Convenience

Working with an umbrella company is often the simplest way to approach contracting. The umbrella company handles all administrative tasks, and there’s no need for you to submit tax returns, VAT or payroll information.

IR35 Compliance

There’s a lot of confusion around IR35 rules, but working with an umbrella company keeps things simple. Contractors working inside IR35 don’t need to worry about complicated IR35 rules, which reduces the risk of HMRC penalties

Employee Benefits

As an employee of an umbrella company, you gain access to many benefits that contractors usually miss out on. This includes sick pay, holiday pay and maternity or paternity leave.

Less Accounting

There’s a lot of accounting to handle as a contractor, but working with an umbrella company means payroll, tax and compliance are all managed for you. You don’t have to navigate accounting yourself, nor do you need to hire a contractor accountant.

Flexibility

Lots of contractors work on multiple contracts simultaneously, and umbrella companies allow you to move between those contracts seamlessly. Regardless of the project that you’re working on, you’re still their employee, even if you change clients.

Alternatives to Umbrella Companies

There’s no denying the convenience of contracting through an umbrella company, but that’s not the only option. As a contractor, you also have the choice to set up your own limited company, to freelance, or work as a sole trader. 

Set Up a Limited Company

You can set up your own limited company and take on the role as director. This can be a more tax-efficient approach to contracting, but there are additional bookkeeping and compliance responsibilities to be aware of. When you set up a limited company, you pay yourself via a combination of salary and dividends, rather than PAYE.

Freelancer or Sole Trader 

You can also operate as a freelancer or sole trader, which involves invoicing clients directly as a self-employed individual. This is a simple way of contracting, but it does mean that you are fully responsible for organising Income Tax, National Insurance and IR35.

Umbrella Company or PAYE? Comparing the Two

Umbrella companies use the PAYE system, in the same way a standard employer does, but that doesn’t mean the two are exactly the same. When you’re working with a standard employer, you are paid via PAYE, which means that Income Tax and National Insurance are automatically deducted by your employer. This is the same if you work with an umbrella company; they also deduct Income Tax and National Insurance. But, whereas working with an umbrella company gives you a lot of flexibility - in terms of working on multiple contracts and for different clients, under the same company - being paid PAYE by a traditional employer doesn’t have the same flexibility, as you’re usually only working for a single employer.

To put it simply, umbrella companies offer the convenience of PAYE, but they add extra support for contractors and compliance safeguards, especially when it comes to IR35 and HMRC.

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Umbrella Company vs. Limited Company: Which is Best?

A lot of contractors find themselves weighing up the pros and cons of using an umbrella company, and comparing those pros and cons to setting up a limited company. Choosing the best for you depends on your individual circumstances, and things such as your personal goals, contract length and willingness to handle administrative responsibilities should all be taken into account.

Umbrella Company

• Minimal setup and administration

• Handled IR35 compliance

• Limited tax efficiency, as Income Tax and National Insurance are deducted automatically

• Provides some statutory employment benefits

• Ideal for short-term contracts or contractors wanting simplicity

Limited Company

• Requires company registration, bookkeeping and annual filings

• Greater tax efficiency, as you can pay yourself via salary and dividends

• Responsibility for IR35 compliance falls on the contractor

• Full control over financial planning, including allowable expenses

• Ideal for long-term contracts and high earning contractors

If you want simple, stress-free income and IR35 protection, umbrella companies are the easiest route. But, if you want tax efficiency and control, a limited company may be better, though you will have more administrative responsibility to keep on top of.

What’s the Verdict?

When you sign up to an umbrella company, you benefit from a simple, compliant way to manage your contracting. At Umbrella Search, we know that working with an umbrella company is often the most convenient approach, especially as far as IR35 protection and access to basic benefits are concerned. However, for contractors who want more control or tax efficiency, a limited company may be a better fit, but this route does come with administrative responsibilities. 

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Why use an umbrella company?

An umbrella company makes contracting simple. You become an employee of the umbrella, which means they take care of payroll, tax, and National Insurance on your behalf. This reduces admin, ensures compliance with HMRC rules, and gives you access to statutory benefits like sick pay and holiday pay.

Why do I need an umbrella company?

You might need one if your contract is inside IR35, if a recruitment agency requires it, or if you don’t want the responsibility of running a limited company. It’s often the easiest route for short-term or first-time contractors.

IR35: Why use an umbrella company?

When working inside IR35, using a limited company can be less tax-efficient and more complex. An umbrella company ensures you’re paid correctly under PAYE, reducing the risk of falling foul of HMRC rules.

Why do umbrella companies charge employer’s National Insurance?

Employer’s NI is a statutory cost of employment. With umbrella contracting, the assignment rate agreed with your agency/client includes this cost. The umbrella deducts it before calculating your gross pay. It isn’t an extra fee—they’re just administering a legal requirement.

Why do umbrella companies charge PAYE tax?

All employees pay PAYE tax and employee NI through payroll. An umbrella simply processes this in line with HMRC rules, so your take-home pay is net of these deductions, just like any other employment.

Why do umbrella companies pay more (or sometimes less)?

Umbrella pay can look higher than a permanent salary because the rate you’re quoted is an assignment rate, not a direct salary. It includes costs like Employer’s NI, holiday pay, and the umbrella’s margin. Once these are deducted, your take-home may feel lower, but the rate reflects the full cost of engaging a contractor.

Why don’t umbrella companies assume 232 working days?

Umbrella companies work on actual days and hours you’re contracted for. The “232 working days” figure is an estimate sometimes used in contractor calculators, but umbrellas must base pay on your real assignments.

Why am I getting £600 instead of £900 through an umbrella company?

The difference is due to statutory deductions—Employer’s NI, holiday pay allocation, PAYE tax, Employee’s NI, and the umbrella margin. Your £900 assignment rate is not the same as a gross salary; it includes employment costs that must be accounted for.

Why do umbrella companies pay minimum wage?

Some umbrellas structure payslips with minimum wage plus separate allocations (such as holiday pay or expenses). This should not reduce your overall take-home but can make payslips confusing. Reputable umbrellas will always ensure you’re paid fairly.

Why do recruitment agencies suggest umbrella companies?

Agencies often prefer umbrella companies because it reduces compliance risk. It means workers are paid through PAYE, so tax and employment law obligations are met. It’s also more efficient for agencies handling large volumes of contractors.

Why do agencies use umbrella companies?

For the same reason as above—it simplifies payroll, ensures compliance with IR35 and HMRC rules, and reduces administrative risk for the agency.

Umbrella company: why am I paying two National Insurance payments?

You’re not being charged twice. One deduction is Employer’s NI (covered out of the assignment rate), and the other is Employee’s NI (your standard contribution). It may look like two payments, but together they represent the normal NI structure of employment.

Why create or have an umbrella company?

Umbrella companies exist to simplify contracting. They allow workers to take on multiple assignments without setting up a business, while giving agencies and clients the reassurance of PAYE compliance.

Why use an umbrella company instead of a limited company?

Umbrellas are best for contractors inside IR35, short-term contracts, or those who don’t want the hassle of running a company. A limited company is usually more tax-efficient but comes with more responsibility.

Why do umbrella companies take so much?

The deductions can feel high because you’re seeing both the employer and employee costs of employment being taken from the assignment rate. This is different from a permanent role where you only see employee deductions. Most of what’s “taken” are statutory taxes, not extra umbrella profits.