PAYE vs Umbrella vs Ltd Contractors: A Guide for Agencies

“Is it PAYE, umbrella or Ltd?” is usually one of the first questions anyone on a contract desk asks about a new placement. It sounds like an admin detail. It isn’t. The answer changes who you pay, what you invoice, what your margin really is and, since April this year, what you could end up owing HMRC if someone else gets it wrong.

I’ve spent seven years in recruitment software, and the mix of engagement types is one of the main reasons pay and bill gets complicated so quickly. Two contractors on the same rate, doing the same job for the same client, can look completely different once you follow the money. So here’s a plain-English run-through of each type, what changes for the agency, and a worked example that puts them side by side.

The short version

• PAYE. The contractor is on your payroll. You pay them, deduct their tax and NI, and carry the employer costs yourself.
• Umbrella. The contractor is employed by an umbrella company. You pay the umbrella, and the umbrella runs the payroll. But from 6 April 2026, you share the risk if the umbrella doesn’t pay HMRC properly.
• Limited company (Ltd). The contractor works through their own company and invoices you. Simple, unless the role is inside IR35 and the client is medium or large, in which case you may be the one running the tax.

Your invoice to the client looks much the same in every case. What happens underneath it doesn’t.

PAYE: you’re the employer for payroll

With a PAYE contractor, you run them through your own payroll every week or month. You deduct income tax and employee NI, and you pay the employer costs on top of their pay rate. For 2026/27, those are mainly:

• Employer NI at 15% above the secondary threshold of £96 a week (GOV.UK, rates and thresholds for employers 2026 to 2027).
• Holiday pay, either accrued or rolled up into the rate.
• Employer pension contributions under auto-enrolment.
• The apprenticeship levy, but only if your total pay bill is over £3 million.

I went through each of these in more detail in how to calculate margin on a contract placement.

What it means for the back office: PAYE is the most work per contractor, because you own the payroll, the RTI submissions, the holiday balances and the pension. In return, it’s the most straightforward to reason about. You know exactly what’s been paid, because you paid it.

Umbrella: someone else runs the payroll, but you share the risk

With an umbrella contractor, the umbrella company is the employer. You pay the umbrella an assignment rate (usually plus VAT), and the umbrella deducts employer NI, holiday pay, pension and its own margin from that before running PAYE for the contractor.

That’s why an umbrella assignment rate is normally higher than the PAYE pay rate for the same job. The on-costs come out of it, rather than sitting on top of it. And it’s why it’s lighter work for the agency: one invoice from the umbrella instead of a payroll run.

For years, that’s where most agencies left it. The trouble is that the umbrella market has had more than its share of non-compliance, and HMRC has decided the people who choose the umbrella should carry some of that risk.

From 6 April 2026, the agency that contracts with the end client is jointly and severally liable with the umbrella for any unpaid PAYE income tax and NI on payments made to the worker (GOV.UK, PAYE rules for labour supply chains that include umbrella companies). In plain words: if the umbrella underpays HMRC, HMRC can come to you for it. If there’s no agency in the chain, it’s the end client. And if the agency is connected to the umbrella, or based overseas, the client is on the hook as well (HMRC Employment Status Manual, ESM2420).

Honestly, this is the biggest change to the economics of umbrella placements in a long time. A margin you earn on an umbrella contractor now comes with a liability attached, and it lasts as long as the placement does. It’s worth asking:

1. Do you know which umbrellas your contractors use? Not just the names on a preferred supplier list, but which umbrella every live placement is actually going through, right now.

2. Can you check what they’re doing? HMRC expects umbrellas to give the agency the information it needs to check PAYE is being operated properly. If yours won’t, that’s a red flag.

3. Does your margin reflect the risk? If the worst case is paying someone else’s tax bill, a very thin umbrella margin might not be worth it.

HMRC’s labour supply chain assurance guidance is worth a read if you haven’t looked at your supply chain since April.

Limited company: simple, until IR35 says otherwise

With a Ltd contractor, you pay the contractor’s own company against an invoice, plus VAT if their company is VAT registered. Many agencies use self-billing so they raise the invoice on the contractor’s behalf. I’ve covered what a self-billed invoice has to show in self-billing invoices for contractors. You don’t carry employer NI, holiday pay or pension, so the margin is simply the charge rate minus what you pay their company.

The complication is the off-payroll working rules, better known as IR35. When the end client is public sector, or a medium or large private sector business, the client has to decide whether the role is inside or outside IR35 and issue a status determination statement (GOV.UK, off-payroll working rules for agencies).

• Outside IR35. You pay the contractor’s company gross, as above.
• Inside IR35. The fee payer, which is usually the agency that pays the contractor’s company, becomes the deemed employer. You deduct income tax and employee NI before paying their company, and you pay employer NI (and the apprenticeship levy, if you’re liable) on top.

If the client is small and private sector, the contractor’s own company decides its status and deals with any tax. Size is judged on turnover, balance sheet and headcount, and the turnover and balance sheet thresholds went up from 6 April 2025 (HMRC Employment Status Manual, ESM10006). So it’s worth asking clients to confirm their size, rather than assuming.

If you want the detail on who’s responsible for what, what a valid status determination statement needs and what happens when a contractor disagrees with the client’s decision, I’ve covered it in IR35 for recruitment agencies.

An inside IR35 Ltd contractor costs you almost like a PAYE contractor, but without the holiday pay and pension. If nobody updates the rate when the determination comes in, your margin quietly disappears.

A worked example (illustrative)

These figures are illustrative, with round numbers and the 2026/27 rates above, to show how the types compare. They aren’t advice, and I’ve left out the apprenticeship levy because most small agencies don’t pay it. VAT is left out too, because for most agencies it passes straight through.

Say you’ve got the same 40-hour week, charged to the client at £30 an hour (£1,200), filled four different ways:

Illustrative, 40-hour week	PAYE at £20/hr	Umbrella at £26/hr	Ltd, outside IR35, at £25/hr	Ltd, inside IR35, at £25/hr
Charge to client	£1,200.00	£1,200.00	£1,200.00	£1,200.00
Paid out (pay, assignment rate or invoice)	£800.00	£1,040.00	£1,000.00	£1,000.00
Holiday pay (12.07%)	£96.56	in the umbrella’s rate	n/a	n/a
Employer NI (15% above £96)	£120.08	in the umbrella’s rate	n/a	£135.60
Employer pension (3% of qualifying earnings)	£23.30	in the umbrella’s rate	n/a	n/a
Total cost to you	£1,039.94	£1,040.00	£1,000.00	£1,135.60
Margin	£160.06 (13.3%)	£160.00 (13.3%)	£200.00 (16.7%)	£64.40 (5.4%)

A few things jump out.

PAYE and umbrella come out roughly the same, which is the point. The umbrella’s higher rate is paying for the costs you’d otherwise carry yourself. The difference is who does the work, and, since April, who holds the risk.

Ltd outside IR35 is the best margin on paper. But the same contractor on the same rate, inside IR35, drops to about a third of that. In the inside IR35 column, the £1,000 also isn’t what the contractor’s company receives: you deduct their income tax and employee NI from it and pay that to HMRC. That’s money passing through rather than a cost to you, but it’s still your payroll to run.

To be honest, that last column is the one I’d worry about most. It’s the kind of thing that doesn’t show up until someone looks at the margin report and asks why a placement that looked fine at the start is barely washing its face.

What to record on every placement

Whatever mix you’ve got, the fix is the same: capture the engagement type properly when the placement is set up, and keep it up to date.

• Engagement type. PAYE, umbrella or Ltd, and which umbrella or which company.
• IR35 status and who decided it. The status determination statement if there is one, the date it was issued, and whether the client has confirmed it’s small.
• Who the fee payer is. If it’s you, your payroll needs to know.
• Rates in the right terms. A pay rate, an assignment rate and a Ltd invoice rate aren’t the same thing, so label them as what they are.
• Changes over time. Contractors switch umbrellas, roles move inside IR35, and companies stop being small. Keep the date each change takes effect, so you know what applied in which week.

If that’s sitting in a spreadsheet and somebody’s memory, it’s going to go wrong eventually. I’ve written before about how those small errors compound, and the wrong engagement type on a placement is a classic example.

Where Paid & Billed fits in

I’m building Paid & Billed for small UK contract desks that deal with exactly this kind of mix. The idea is that each placement holds its engagement type, rates and status, and timesheets drive the right pay, invoice and margin from there, whichever type the contractor is.

It’s still in development, so I’m not going to pretend it does all of that today. But PAYE, umbrella and Ltd contractors are the bread and butter of a contract desk, and I’d much rather build it with agencies who juggle them every week.

If you’d like to follow along, or help shape what gets built, you can join the waitlist at paidandbilled.com.