Setting up your company
Historically, the majority of freelancers have either set up their own limited company or have taken the self-employed route. An alternative option is to use an umbrella company. Your own circumstances and preference will dictate which way of operating suits you.
Some freelancers who are only working for short periods or simply do not want the hassle of paperwork and the responsibility that comes with running their own limited company will choose an umbrella. The financial returns by trading through an umbrella will be much less, particularly if you are outside IR35. It is best to speak to good freelancer accountants or limited company accountants and ask them what levels of income you could expect using either option.
The options available to you are:
- Your own Limited Company
- Sole Trader/ Partnership
- Umbrella Company
- PAYE through the Agency
These options will be further discussed below.
1. Your own limited company
The vast majority of freelancers should work through their own Limited Company.
Company set-up can be done online or alternatively, you can apply for a limited company direct from Companies House (but this will take longer).
Some accountants will set up your company for free on condition that you sign up as a client. If you've found an accountant you're happy with, you may choose this option.
Setting up a limited company means that you are running your own business and will have complete control. You will be the company director, operate the company bank account, and be responsible for the affairs of the company. Running your own limited company is the most tax efficient way of working as you keep more of your income. Keeping complete financial and administrative control ensures your money is not risked with any third party administrator. There are of course more responsibilities in terms of paperwork and deadlines, but a good accountant will be able to minimise this burden.
If your sales exceed a certain figure you need to register for VAT; there are benefits to registering for VAT voluntarily before you reach that figure.
As part of your responsibilities, you need to notify Companies House of any changes to your company. If you have formed your company through Freelance UK you can log in to your admin section to perform many of these, such as change of registered address or change of Directory/Secretary particulars. Alternatively, you can do this direct with Companies House through Webfiling. Their system will enable you to file changes to your company information online, as a new user you will need to apply for authentication codes first of all.
You will also need to complete an Annual Return. (This form comes from Companies House and asks for details of directors, secretary, address, shareholdings and trading activities - completed once a year).
Various forms will need completing throughout the course of the year, all of which your accountant will help you with. You can expect:
- Form CT41g (New Company enquiry form).
- VAT Returns (Assuming you are VAT registered you will get one of these every three months).
- Corporation Tax Return (This is the Company tax return and is sent with the Annual Accounts to the HMRC - prepared once a year by your accountant).
Choosing an Accountant
FreelanceUK carries many advertisements for accountants that specialise in catering for freelancers. Our advice would be to approach as many as you can to establish what each offers, how they can save you money and the service they provide as a comparison.
2. Sole Trader/ Partnership
These are both forms of self-employment. A partnership just means that two or more people own the business. These are the simplest ways in which you can trade. You are obliged to keep all your invoices and receipts for 6 years and keep a record of the money you have earned and the money you have spent on your business. At the end of the tax year (5th April) you need to complete a Personal Tax Return on which you will declare to the Revenue these income and expenses.
Visit gov.co.uk to find out how to register as a sole trader.
When you are self-employed, you're responsible for paying your own self-assessment tax and National Insurance contributions. Keeping full and accurate records from the start will make it easier to work these out. Broadly speaking, after your first year in business, the tax you have to pay will be based on your profits for the previous tax year. A tax year runs from 6 April to 5 April. (But you must start paying Class 2 National Insurance contributions as soon as you become self-employed. These are payable in addition to any Class 4 National Insurance contributions which may be charged on your profits.)
So if Self-Assessment applies to you, you must send in a tax return each year showing details of your income, gains, reliefs and allowances. You can also work out your own tax bill. The self-assessment deadline is 31st January.
Unless your income is very small we would recommend that you employ a freelancer accountant. Whilst they can be expensive, a good accountant will end up saving you far more than they cost you.
3. Umbrella Company
Joining an umbrella company means you become a PAYE (Pay As You Earn) employee of the umbrella. Your client or agent enters a contract with the umbrella for your services and you enter into a contract with the umbrella. An umbrella company, therefore, provides a ready-made invoicing vehicle for freelancers whilst also removing the administrative duties normally associated with working in the form of a Personal Service Company. The Umbrella Company normally issues invoices on the freelancer's behalf, collects payments from clients/agencies, calculates tax and N.I contributions and pays the freelancer their net pay directly to their personal bank account. The benefits, therefore, are that it is very easy to use, you simply send in your timesheet and expense details and wait to be paid. The downside is that you won't keep as much of your money with an umbrella as running a limited company and you are reliant on that company collecting your money from the client or agent and then paying you.
Traditionally, Umbrella Companies were more expensive than running your own Limited Company, mainly because their charges included all the administration overheads, and they tended not to offer the same tax advantages. With the introduction of IR35, the tax disadvantages of Umbrella Companies have been reduced.
Umbrella Company Dispensations
A dispensation is a list of expenses that your umbrella company is not compelled to record on a P11D. Normally when expenses are paid to an employee a Company is required to complete a P11D. A dispensation means this is not necessary for umbrella companies for those expenses which it covers. All umbrella companies have dispensations. If you claim expenses you will need to keep receipts - a dispensation means that your umbrella company does not have to present receipts to the HMRC, it does not mean that you don't need them as you may need to prove expenditure.
Providing umbrella companies follow HMRC rules, all should provide you with the same "take home" pay - the only difference should be the fee they charge you.
Choosing an umbrella company
When researching potential umbrella companies you may wish to ask if there are any hidden costs or penalties for leaving the umbrella company so that you can compare services on a like-for-like basis. Read more on umbrella companies on our sister site Contractor UK.
4. PAYE through agency
Some agencies allow you to become "PAYE" through their own payroll service.
This is the least tax beneficial option available to a freelancer as you pay full tax and national insurance (NI) contributions on all your earnings. In addition, this option does not allow you to claim valid business expenses which would help to reduce your tax and NI liabilities.