In the UK a great many freelance and self-employed contractors are now moving their tax solutions and structures away from the traditional Managed Service Companies or Umbrella Companies. They are now moving across to a new structure known as an Employee Benefit Trust. And although the many benefits of Umbrella Companies compared with Managed Service Companies are well documented it is worth weighing up a further question – namely which is a better choice for freelancers and contractors, Umbrella Companies or Employee Benefit Trusts?

Managed Service Companies were the tax vehicle of choice for most contractors before 2007. An MSC was a composite service company designed to manage general administration, invoices and paperwork. The contractors and freelancers became shareholders in the company but were not responsible for its management and did not have to get involved in any of the general administration and jobs traditionally managed by company directors. Rather, these jobs were dealt with by the chosen service provider, allowing the freelancers to receive their salary at the end of the week and to work in a more efficient environment for contractors.

However, since the passing of legislation in 2007 addressing IR35 and the abuse of  Managed Service Companies to avoid National Insurance contributions and higher bands of income tax, Umbrella Companies and more recently Employee Benefit Trusts, (neither of which are covered by MSC legislation) suddenly became the more popular and more efficient choice amongst most contractors and freelance workers.

An umbrella company is in essence a company that acts as an employer to contractors working under fixed term contracts. The Umbrella Company will take away the hassle of payment collection from clients, (including invoicing etc) as well as organizing tax calculations and national insurance contributions on behalf of its contractors. The individual freelancers and contractors will fulfill their contract employment as per usual but at the month’s end they will simply hand in time-sheets and expenses forms to a representative of their umbrella company. After that the umbrella company deals with all the paperwork on behalf of the freelancers, contractors and consultants.

In the last couple of years however, many freelancers have moved once again from Umbrella Companies to something called an Employee Benefit Trust, which they see as offering even more advantages. EBT’s are trusts which have been established by some employers for the benefit of those people who work for them. An Employee Benefit Trust for freelancers, contractors and consultants is similarly a discretionary trust designed specifically with freelance workers, portfolio workers and consultants in mind, who will be called ‘skilled employees’ and ‘employed’ by their chosen EBT provider company and who are then classed as employees in order to be able to benefit from their Employee Benefit Trust’s tax structure. The company that is managing the Employee Benefit Trust will pay the contract worker a nominal salary (normally minimum wage) from which PAYE and National Insurance are taken. The rest of the contract worker’s salary is then paid into the EBT. Thereafter, the trust will loan to the contractor, interest free (and with indefinite repayment terms) the balance of pay owed.

Which is superior then? Basically, an Employee Benefit Trust covers all the same advantages that the Umbrella Companies offer (the removal of director responsibilities, lack of invoices and paperwork, and not affected by MSC legislation) but goes further still and has none of the problems associated with Umbrella Companies. EBT’s do not require expenses or time-sheets. They also provide more job security as contractors working under EBT’s are given full UK and world-wide employment rights and statutory benefits. Finally, and perhaps of key importance to most contract workers, they offer a substantially higher gross to net ratio on earnings. Whereas umbrella companies can offer up to 65% gross to net, EBT’s can offer an amazing 85% return on gross to net earnings.