Recruitment agencies making contract and temporary placements have many options available when it comes to paying their contractors, these being PAYE, umbrella companies, self-employed entities and limited companies. Whilst self-employed entities have always been a risky method of paying contractors (due to the risk remaining with the agency as there is no director to move the liability of tax to on the gross payments made) most agencies will opt to pay contractors via umbrella/ limited companies instead of opting to offer a PAYE scheme. This has been due to a common misconception that running a contractor payroll is complex and time-consuming (a myth often spread by umbrella company providers) or umbrella/limited company providers offering a financial “kick-back” to the agency.
Over the years the government have put many restrictions in place on the contractors using umbrella and limited companies as it is believed that these type of schemes are being exploited to reduce the taxes payable to HMRC (either through paying expenses or dividends). It is also thought that a large number of the contractors working are doing the same jobs as permanent employees, which begs the question why should they be entitled to these benefits?
The most recent changes imposed by the government and HMRC around these payment models are where they removed the ability to claim expenses via umbrella companies (these need to be done on a contractors self-assessment return) and also changed the rules on IR35 workers in the public sector; this has resulted in the move of a number of contractors from limited companies to umbrella companies to ensure that “employed” workers are paid under PAYE schemes.
However, recruitment agencies have not been fully briefed on whether this is the correct method to follow and are often not aware of the benefits of running the contractors under a PAYE scheme instead of through an umbrella company:-
1.MASSIVE IMPROVEMENT TO CASH-FLOW
Agencies running a PAYE payroll for their contractors will often have a much better cash-flow situation in their bank account due to the funds for VAT, PAYE, holiday pay and pension contributions being held in the agency bank account instead of paying all of these costs and the candidates pay immediately to the umbrella company.
- VAT – VAT is charged to your clients but you do not pay VAT on PAYE contractors. Umbrella companies, however, will charge VAT on their invoices. This means you will be holding onto more VAT in your company bank account until your next VAT return.
- PAYE – Employers NI, Employees NI, Tax and Student Loan Deductions are payable within your PAYE on the 22nd of the following month that the payroll is run, so you are holding onto these funds until this time. The rates charged by the umbrella companies will include all of these deductions and they will hold these funds in their own accounts, thus feeling the cash benefit that you are missing.
- Holiday Pay – Holiday pay is payable to contractors when they take time off for holiday, so you should hold these funds in your account until payable. The rates charged by the umbrella companies will include these deductions.
- Pension Contributions – Client and Candidate Pension contributions are often paid to the pension provider in the month following the payroll so you should hold these funds in your account until they become due. If the candidate opts out of the scheme then the additional profit from the client contribution is made by the agency instead of being paid in full to the umbrella company.
2. REDUCTION IN FUNDING COSTS
If the agency is processing a PAYE scheme and holding the additional funds due to HMRC or the pension company, then the need to borrow full funds from an invoice finance provider to process the payroll will reduce the interest costs. As most invoice finance companies calculate their interest rates on the Bank of England or LIBOR base rates, these costs may grow if there is a change in these rates.
3. ENSURE HMRC REQUIREMENTS ARE MET
By processing the contractor’s payroll internally this will ensure that if a candidate should be processed under an “employed” status within the IR35 rules then there is no risk to the agency as they are fully compliant. However, if a payment is made to an umbrella company who are operating a uniquely created tax scheme (often untested and not approved by HMRC), then there is still a potential risk to the client, contractor and the agency.
4. PAYROLL PROGRAMS DO THE WORK FOR YOU
The myth that payroll is a highly complex system to process and can only be done by trained professionals or accountants has had a major hand in stopping agencies from processing this internally and using umbrella companies instead. However, payroll software nowadays is very intuitive and linked directly to HMRC (through Real Time Information (RTi)) to make the processing of payroll simple to do yourself. Also, many of the invoicing systems provided to the recruitment industry will have a payroll functionality included to make it even cheaper and easier to roll out.
5. PAY-AND-BILL COMPANIES OR OUTSOURCING PROVIDERS CAN PROVIDE THIS SERVICE WITHIN THEIR COSTS
The other alternative is if you are outsourcing the processing of your contractors to an outside party, such as a Pay-And-Bill company or a full back office outsourcing company, then they can provide this as part of their service and within their costs. However, the thing to note is that often Pay-And-Bill companies will hold the VAT, PAYE and holiday pay in their account so there may be no advantage to cash-flow but at least the candidates are being processed correctly.
6. NO FINANCIAL ADVANTAGES FOR THE CONTRACTORS
As HMRC have now removed the capabilities of umbrella companies being able to offset expenses on a candidates pay, there is now no difference in the take home pay between paying a contractor on an agency payroll and through an umbrella company. Therefore all of the advantages given by umbrella companies to candidates and recruitment agencies are now redundant.
7. REMOVES ADDITIONAL PARTY TO THE CHAIN
By engaging and paying contractors directly via an agency payroll, it takes another party out of the equation relating to contracts, payments and interactions with contractors. This means that signing up contractors can be done quicker (and more efficiently) and making payments to the contractors can be done directly. In some cases umbrella companies may request payments earlier to ensure they can pay candidates by the Friday, which can have an added impact on cash-flow and on the payroll team whereas making the payment directly to the candidate avoids this.
Even with all of the reasons above showing the advantages for recruitment agencies, there is still a place for umbrella companies in the market especially for candidates who are working through multiple agencies or on jumping between short term placements (i.e. temporary workers) as the payroll for their work is centralised. The method of paying funds to limited companies is still a viable option for recruitment agencies as long as the candidate is not working in the public sector under an “employed” status and/or is ensuring they are assessing their contract position under the IR35 rules.
TBOS has always been able to provide internal PAYE payroll options to the recruitment agencies we look after through our TBOS Complete and TBOS Freedom models. Some of the agencies we manage have decided against using umbrella companies for all of their contractors and only process their candidates under PAYE which has resulted in much better company cash-flow, to the point where one agency does not require invoice finance to process his large contractor payroll each week. This, coupled with the fact that they know that their candidates are being processed correctly under the new IR35 rules, ensures that they can concentrate on making more placements with no risk to their clients or themselves. It also removes any question of accountability should there be a problem with any candidate payroll.
For more information on how TBOS can help administer a contractor payroll scheme for your agency, please contact our office.