Agency PAYE vs Umbrella Company Payroll

Understanding Your Payroll Options as a UK Contractor

Contractors operating on temporary assignments in the UK are often faced with a key decision: whether to be paid via an agency's PAYE (Pay As You Earn) scheme or through an umbrella company. Each approach has profound implications for your take-home pay, employment rights, and long-term financial planning.

This guide provides an evidence-based review of both options to support informed decision-making.

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Defining Agency PAYE

Agency PAYE is the simplest payroll route for contractors engaged via recruitment agencies. Under this model, the agency directly employs the contractor for the duration of the assignment. Key points include:

• Statutory Employee Benefits: After 12 weeks, contractors are entitled to statutory benefits such as holiday pay, sick pay, and maternity/paternity pay, as outlined in the [Agency Workers Regulations 2010](https://www.gov.uk/government/publications/agency-workers-regulations-2010-guidance-for-recruiters).
• Salary Structure: PAYE workers are paid through the agency’s payroll, mirroring a permanent employment structure.
• Assignment-Specific Employment: Once the contract ends, the employment relationship with the agency terminates.
• No Umbrella Fees: Contractors avoid umbrella company margins and additional employment costs.

"Agency PAYE offers simplicity and statutory protections but may lack flexibility for long-term or multi-assignment contractors."

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The Role of Umbrella Companies

Umbrella companies act as intermediaries between the contractor, end-client, and recruitment agency. Their primary function is to employ contractors for payroll purposes and process payments through PAYE. The process typically involves:
• Supply Chain Structure: The umbrella sits between the agency and end-hirer, signing contracts with both.
• Payroll Processing: Contractors submit timesheets to both the agency and umbrella. The agency pays the umbrella, which then processes payroll under PAYE.
• Deductions: Prior to payment, the umbrella deducts its margin (usually £20–£25 per week) and employment costs (employer's NIC, Apprenticeship Levy). Income tax and NICs are then paid to HMRC on your behalf.
• Additional Deductions: Pension contributions and student loan repayments may also be withheld.
• Continuity of Employment: Contractors can maintain employment with the same umbrella across multiple assignments, supporting financial stability and credit applications.

The umbrella model streamlines administration but introduces margin costs and a more complex supply chain.

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Comparative Overview: Agency PAYE vs Umbrella Company Payroll

The following table summarises key differences:

Feature	Agency PAYE	Umbrella Company
Employer	Recruitment Agency	Umbrella Company
Pay Rate	Usually lower (no margin deducted)	Often higher to offset costs
Worker Costs	No fees or deductions beyond PAYE tax	Umbrella margin and employer's NIC deducted
Statutory Benefits	After 12 weeks	After 12 weeks
Continuity of Employment	Assignment-specific	Across multiple assignments
IR35 Relevance	Paid as if inside IR35 (full PAYE)	Paid as if inside IR35 (full PAYE)
Insurance Cover	Often included	Often included
Expense Claims	Not applicable	Restricted, subject to SDC rules

1. Rate of Pay

Umbrella workers are typically offered a higher headline rate to compensate for the umbrella’s margin and additional employer costs. Agency PAYE rates, by contrast, do not include these uplifts as there are no third-party administration charges.

2. Cost to the Contractor

• Agency PAYE: No additional fees. All statutory deductions handled by the agency.
• Umbrella Company: The contractor pays the umbrella’s margin and covers employer’s NIC and the Apprenticeship Levy, deducted before tax is calculated. Agencies often increase the pay rate accordingly.

3. Employee Rights

Both models provide access to statutory rights, but full benefits accrue only after 12 weeks of continuous employment with a single employer, as per the Agency Worker Regulations.

4. Continuity of Employment

• Agency PAYE: Employment ends with each assignment.
• Umbrella Company: Employment continues across multiple roles, helpful for credit checks, mortgage applications, and demonstrating stable employment history.

5. IR35 Considerations

Under both agency PAYE and umbrella company payroll, contractors are taxed as employees. IR35 status is not a concern, because full PAYE is applied. For those seeking maximum tax efficiency, operating outside IR35 via a limited company remains the optimal route.

6. Insurance Coverage

Most agencies and umbrellas provide core insurance policies:
• Employers’ Liability Insurance
• Public Liability Insurance
• Professional Indemnity Insurance

Always verify what cover is provided and any contractual requirements from your end-client.

7. Claiming Expenses

Since 2016, claiming travel and subsistence expenses through umbrella companies has become highly restricted. Under Supervision, Direction, and Control (SDC) rules, most contractors are ineligible. Only genuinely unsupervised workers may claim, subject to stringent proof.

"Expense claims via umbrella companies are now rare due to SDC legislation. Discuss eligibility before relying on this benefit."

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Which Option Should You Choose?

The best payroll arrangement depends on your circumstances, assignment length, and personal preferences.

Agency PAYE may suit you if:

• You value simplicity and minimal administration.
• You expect to contract for a short period.
• Employee rights are less important to you.
• You prefer to be paid directly by the placing agency.

Umbrella company payroll may be preferable if:

• You work on multiple assignments simultaneously.
• You require continuity of employment for financial or credit reasons.
• You are likely to contract long-term.
• You may be eligible for certain expense claims (rare).

The Decline of Agency PAYE

Recruitment agencies increasingly outsource payroll to umbrella companies. Reasons include:
• Administrative burden and compliance complexity for agencies.
• High staff turnover among temporary workers, increasing costs.
• Legislative risks and the need for specialist knowledge to ensure HMRC compliance.

As a result, many contractors are now required to use an umbrella company, with the agency providing a preferred supplier list.

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Next Steps for Contractors

• Assess the options available for your specific assignment.
• Ask the agency about both payroll routes and the net pay implications.
• Review umbrella company lists for compliance, reputation, and service level.
• Verify what insurance is included and whether you might qualify for any expense claims.
• Consider the long-term implications for employment continuity and credit applications.

Making an informed decision about payroll is crucial for every UK contractor. Use the above criteria to ensure your choice maximises both compliance and personal benefit.