Contracting vs employment 2018-19

I am currently an IT contractor working on a day rate of £450 + VAT, working full time, 230 days per year. I have been offered a full time employed role on £85,000 and I’d like to understand the tax impact of this compared to my current contracting work. In my current setup my wife and I are both directors and equal shareholders and our annual business costs are approx £5,000 net per year. We have no other income outside of our work, although we do receive child benefit for 2 children.

 

Contracting vs employment

 

Answer March 2018

It is often difficult to compare a contracting role to one of employment as there are many moving parts, not just in relation to taxes.

The below answer assumes your contract is outside of IR35 and calculates the tax position based upon the prevailing rates for the 2018-19 tax year.

It also uses the assumption that you each take salaries from the company to the National Insurance Primary Threshold and distribute all available profits by way of dividends.

 

Contracting tax calculation

 

contractor vs employee

 

Total personal income per director is below £50,000 so no claw back of child benefit applies.

As you can see in the above example the total take-home pay equates to £78,830 after all taxes are deducted. Total tax paid is £19,669 across corporation tax and personal taxes, with dividends falling exclusively in the basic rate band for both directors and as such the taxable dividends are taxed at 7.5%.

 

Employee tax calculation

If we now compare this to an employment role with a salary of £85,000, see below for the tax calculations based on the 2018-19 tax year:

 

employment taxes

 

Where the employment route is taken there is significant tax difference.

The extra £18,500 of income in the contractor role equates to an extra £23,303 of take-home pay after all taxes are deducted.

In the employment role there is an overall employee tax and national insurance payment of £27,684 before the child benefit repayment (which is now repayable in full as total individual income has breached the £60,000 child benefit upper threshold).

A further factor to consider is travel and subsistence costs. As an employee you are unable to claim any travel or subsistence costs that would constitute commuting to your normal place of work. This differs for a contractor where travel and subsistence costs can be claimed as long as the location isn’t a permanent workplace, see our article: Contractor Travel Expenses.

The tax benefits of contracting through a limited company are quite clear in this scenario as the position is optimised given the spouse has no other income outside of the company. If the spouses’ situation were to change then the overall difference narrows as the second personal & basic rate tax band become utilised elsewhere.

There can also be other non-tax aspects that may affect any decision between contracting vs employment – employment contracts can have the benefit of offering a greater degree of security to an individual’s income and may offer various employment benefits. However, some individuals prefer the flexibility that contracting can offer.

This article is by no means exhaustive in discussing the issues surrounding contracting vs employment. Before making any decision in this regard we recommend gaining the advice of a qualified and experienced accountant.