When you undertake a contract via a PAYE umbrella company, you become the ‘employee’ of that company and the umbrella is your ‘employer’. Therefore you become liable for National Insurance as you would as an employee. You are also responsible for paying the 0.5% Apprenticeship Levy. 
When a contractor uses an umbrella company for their payroll, the employer doesn’t benefit from any work that the contractor undertakes. This is because the employee is working for a different organisation, who is the end-client. 
Therefore, umbrella companies are not in a position to cover the Employer’s National Insurance Contributions due to them not benefitting from the work carried out. 

What is the Apprenticeship Levy? 

This a government deduction that employers are legally required to pay when they have an annual payroll of over £3 million. The government requests 0.5% of the overall wage bill of a company. 
Due to most umbrella companies employing thousands of contractors, they are therefore liable to pay AL contributions. Subsequently, this cost is passed to their employees, otherwise the umbrella companies would make a loss and not be able to continue. 

How are these costs factored into the contract rate? 

It might seem slightly unfair that these costs are passed onto the contractor/employee. However, a lot of recruitment agencies are now offering different pay rates for the same assignments. There is usually a standard rate for PAYE and then a higher rate for those who work through an umbrella company. By doing it this way, it covers the costs that umbrella contractors are liable for. 
The rates must not be deducted from the umbrella contractor’s wages and instead there is an assignment rate that is charged to the end-client (which takes into account the cost of employment and umbrella company margin). A rate of pay should be agreed with the contractor at the start of the contract. 
The umbrella company will receive payment from the end-client or agency. They will be a multiple of the assignment rate. The relevant employment costs will be deducted from this figure (employer’s NICs and Apprenticeship Levy). 
If applicable, pension contributions will also be deducted and any holiday pay. The gross pay amount will then be given. 
As an employee, you will be required to pay employee’s NICs and income tax on the gross pay, which will be deducted on your behalf. The net pay owed to you will be the final amount shown. 

Next steps 

As a contractor, it is advisable to do your research before choosing an umbrella company for your payroll. Choose one that has a good reputation or has been recommended by other contractors. They should also be a member of the FCSA. Make sure you don’t get tempted to use a tax avoidance scheme as this can lead to repercussions from the HMRC. Use your due diligence and find the right one that works for you. 
For more information or advice feel free to book a call in with us to discuss your requirements - we'd love to hear from you. 
Written by 
Nicola J Sorrell - 
Effective Accounting 
Founder | Xero Champion | IR35 Expert 
Tagged as: For - Contractors
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