How does an umbrella company work?

An umbrella company acts as the employer of record for contractors. The end client or recruitment agency pays the umbrella company a contract rate. The umbrella deducts employer National Insurance (15% above £5,000/year), the Apprenticeship Levy (0.5%), its own margin fee (typically £20-£25/week), and any other employment costs. The remaining amount becomes your gross salary, from which employee income tax, employee NI, and any pension contributions are deducted via PAYE, leaving your net take-home pay. This means you are a genuine employee with full employment rights.

What is IR35 and how does it affect umbrella company workers?

IR35 is HMRC's off-payroll working rules designed to prevent 'disguised employment'. From April 2021, the Off-Payroll Working rules (Chapter 10 ITEPA 2003) shifted responsibility for determining IR35 status from contractors to medium and large engagers (clients). If a role is determined to be inside IR35, tax must be collected at source - which is exactly what umbrella companies do. Working via an umbrella when inside IR35 is therefore fully compliant. If you are outside IR35, working through your own limited company is usually more tax-efficient as you can extract income via dividends taxed at lower rates.

What is the difference between umbrella take-home and limited company take-home?

For a contractor on £500/day (220 days, inside IR35), an umbrella company typically yields around 60-65% take-home of the contract value. Outside IR35 via a limited company, the same contractor might achieve 75-80% take-home by drawing a minimal salary (around £12,570) and taking the rest as dividends taxed at 8.75% (basic rate) or 33.75% (higher rate). The gap narrows at higher income levels where dividend tax rises. You must also factor in accountant fees (£1,000-£2,500/year), IR35 insurance, and the administrative burden of running a company.

What are Agency Worker Regulations (AWR) and when do they apply to umbrella workers?

The Agency Workers Regulations 2010 (AWR) give temporary workers certain rights after 12 continuous weeks in the same role with the same hirer. After 12 weeks, you are entitled to the same basic pay and working conditions as if you had been employed directly by the hirer on day one. This includes: the same basic pay rate, the same duration of working time, the same rest breaks, and access to collective facilities like canteens and childcare. Note that AWR rights relate to the role and hirer, not just the umbrella company - so changing umbrella companies does not reset the 12-week clock.

What is a mini umbrella company and why is it dangerous?

Mini umbrella fraud is a tax avoidance scheme highlighted by HMRC in 2021. It involves creating many small companies (mini umbrellas), each employing only a few workers. The scheme exploits the Employment Allowance (£10,500 per company in 2025/26, for employers whose NI liability is under £100,000) - by splitting workers across many companies, fraudsters claim multiple Employment Allowances to reduce their employer NI liability fraudulently. HMRC has confirmed this is illegal tax fraud, and workers who use such schemes may be liable for unpaid tax and face penalties. Only use umbrella companies that are members of the FCSA or Professional Passport and that clearly show their employer NI deductions on your payslip.

Are there HMRC-approved umbrella companies?

HMRC does not officially approve or endorse specific umbrella companies. However, HMRC does publish a list of tax avoidance schemes to avoid (the Marketed Tax Avoidance Schemes list). Legitimate umbrella companies should: be registered with Companies House, operate full PAYE, deduct employer NI and the Apprenticeship Levy from your contract rate, provide a compliant payslip showing all deductions, and be accredited by bodies such as the Freelancer and Contractor Services Association (FCSA) or Professional Passport. Be very wary of any umbrella claiming you can keep 85-90% of your day rate - this is almost always a sign of a non-compliant scheme.

What is the Apprenticeship Levy and does it affect my umbrella take-home?

The Apprenticeship Levy is a 0.5% charge on employers with a UK pay bill over £3 million per year. Large umbrella companies are almost certainly above this threshold. The levy is calculated on your assignment rate (before employer NI) and, like employer NI, is deducted from the contract value before your gross salary is calculated. On a £400/day rate for 220 days (£88,000/year), the levy costs approximately £440/year - roughly £1.75 per working day. This is one reason why the 'effective rate' you receive is lower than the headline day rate quoted by your agency.

Can I make pension contributions through an umbrella company?

Yes. As an employee of the umbrella company, you are subject to auto-enrolment rules. After three months of service, the umbrella must automatically enrol you in a workplace pension if you earn above £10,000/year and are aged 22 to State Pension age. Minimum contributions are 5% employee plus 3% employer (total 8%). You can often request higher contributions, and salary sacrifice arrangements may be available which can reduce your income tax and NI. Making pension contributions through an umbrella is particularly tax-efficient for higher-rate taxpayers as it reduces taxable income.

Umbrella Company Calculator UK 2025/26

Last updated: February 2026

Umbrella Take-Home Calculator

Enter your day rate and contract details to see your full breakdown

Umbrella vs Limited Company: Inside vs Outside IR35

Factor	Umbrella (Inside IR35)	Ltd Company (Inside IR35)	Ltd Company (Outside IR35)
Typical take-home %	60-65%	58-63%	72-80%
Employment rights	Full (AWR after 12 wks)	Director only	Director only
Admin burden	Very low	Medium	Medium
Accountant fees	None	£1,000-£2,500/yr	£1,000-£2,500/yr
IR35 risk	None (always compliant)	Low (inside applied)	Higher (status risk)
Expenses claimable	Very limited	Limited (inside IR35)	More flexible
Setup time	1-2 days	1-2 weeks	1-2 weeks

How an Umbrella Company Processes Your Day Rate

Many contractors are surprised to find their umbrella take-home is significantly lower than the day rate they negotiated. This is not because the umbrella company is doing anything wrong - it is simply the nature of how employment costs work in the UK. Understanding the deduction waterfall is essential for accurately comparing job offers and negotiating rates that meet your income goals.

Step 1: Contract Value (Your Gross Assignment Rate)

Your agency pays the umbrella company your agreed day rate multiplied by the days worked. On £400/day for 48 weeks at 5 days per week, this is £96,000 per year. This is the contract value - not your salary.

Step 2: Employer National Insurance (15%)

Employer NI is 15% on earnings above the Secondary Threshold (£5,000/year). On £96,000 contract value, employer NI is approximately £13,650. This reduces the pot to £82,350. This is why umbrella companies say their rates are 'assignment rates' - employer NI comes out of the contract value, not on top of it.

Step 3: Apprenticeship Levy (0.5%)

The Apprenticeship Levy is 0.5% of the employer's total pay bill. Applied to the contract value of £96,000, this is £480. The pot reduces further to £81,870. The levy funds apprenticeship training across the UK - even though you as an umbrella worker will not personally benefit from this fund.

Step 4: Umbrella Margin Fee

The umbrella company charges a management fee for its payroll services, IR35 compliance, insurance, and employment liability. At £22/week for 48 weeks, this is £1,056/year. The remaining £80,814 becomes your gross salary.

Steps 5-7: PAYE Tax, Employee NI, and Pension

Your gross salary of £80,814 is then subject to standard PAYE income tax and employee NI just like any employee. On £80,814 with tax code 1257L: income tax is approximately £26,066 (20% basic + 40% higher rate), employee NI is approximately £3,961. Without pension, net take-home is roughly £50,787 per year - approximately 52.9% of the original £96,000 contract value.

The Effective Rate Problem

The 'effective rate' is your actual net income divided by the number of days worked, expressed as a daily figure. If you take home £50,787 per year over 240 working days, your effective daily rate is £211.61 - compared to a stated £400/day rate. This is why understanding the full deduction chain before accepting a contract rate is so important. When negotiating with agencies, it helps to know whether the stated rate is the assignment rate (from which employment costs will be deducted) or the gross salary rate (after those costs).

IR35 Off-Payroll Working Rules: April 2021 Reform

The Off-Payroll Working rules (commonly called IR35 reform) were extended to the private sector on 6 April 2021, having already applied to public sector bodies from April 2017. Before this date, individual contractors working through their own limited companies were responsible for assessing their own IR35 status. The 2021 reform shifted this responsibility to the end client (engager) for medium and large businesses, defined as those meeting at least two of: turnover over £10.2 million, balance sheet over £5.1 million, or more than 50 employees.

Small businesses (those not meeting two of the three criteria) still require the worker to self-assess their own IR35 status. Where a medium or large client determines a role is inside IR35, the fee-payer (usually the agency) must deduct income tax and NI through PAYE before paying the worker's personal service company. Working via an umbrella company automatically satisfies IR35 compliance because you are already an employee paying full PAYE - there is no personal service company in the chain to catch under IR35.

HMRC's CEST Tool and Its Limitations

HMRC's Check Employment Status for Tax (CEST) tool is available online and is designed to help workers and engagers determine IR35 status. However, CEST has faced significant criticism from the contractor community and professional bodies. It does not consider the mutuality of obligation test - a key legal concept in employment status determination established by the House of Lords in Carmichael v National Power plc [1999]. Professional bodies including IPSE (the Association of Independent Professionals and the Self-Employed) have noted that CEST returns an 'undetermined' result in a significant proportion of cases, leaving contractors in legal limbo.

If your status is genuinely ambiguous, seeking professional advice from an IR35 specialist (not just a general accountant) is advisable. IR35 insurance policies are available from specialist providers including Qdos and IPSE, typically costing £300-£500/year, and provide legal defence cover and tax liability cover if HMRC later disputes a status determination.

Pros and Cons of Using an Umbrella Company

Advantages

Full employment rights including SSP, SMP, SPP
AWR rights after 12 weeks
No administrative burden - no Companies House filings
Completely IR35 compliant
Auto-enrolment pension access
Ideal for short-term or single contracts
Easy to switch between clients

Disadvantages

Lower take-home than outside-IR35 Ltd company
Employer NI and levy reduce contract value
Limited expenses claimable
Margin fees eat into take-home
No control over company's tax affairs
Risk of non-compliant schemes
Perceived as less professional by some clients

General Comparison: Umbrella Company Features

Note: This is a general comparison only - we do not endorse or recommend any specific umbrella company. Always conduct your own due diligence and check FCSA or Professional Passport accreditation.

Feature	Basic Umbrella	Premium Umbrella
Typical margin	£20-£22/week	£23-£30/week
Same-day payments	Rarely	Often available
Pension options	Auto-enrolment only	Salary sacrifice available
Insurance included	PLI, ELI	PLI, ELI, PI
FCSA/PP accredited	Varies	Usually yes
Holiday pay handling	Rolled-up or accrued	Accrual preferred

PLI = Public Liability Insurance. ELI = Employer Liability Insurance. PI = Professional Indemnity Insurance.

Official Sources

Mustafa Bilgic

Finance writer and UK contracting specialist at ukcalculator.com. Mustafa covers IR35, umbrella companies, and contractor taxation, using HMRC guidance and FCSA standards. Learn more.