Getting Paid as an IT Contractor: Invoicing, Tax and Payment Explained

Unlike a permanent employee, who is paid a regular salary and has payroll handled by their employer, an IT contractor is paid on a contract-by-contract basis and is responsible for their own invoicing and tax obligations.

How a self-employed professional is paid will depend on their business structure, whether that’s contracting as a sole trader, through a limited company or through an umbrella company.

While there are pros and cons for each route, the appropriate structure for you will depend on your individual circumstances.

How do IT Contractors Get Paid?

An IT contractor is paid for the services they provide under the terms of their contract, rather than receiving a fixed annual salary like an employee.

As mentioned earlier, the actual process of getting paid depends on the contractor’s structure. For more information on how each route works, visit our Choosing a Company Structure page.

Getting Paid Through a Limited Company Contractor

Here’s the basic process broken down:

1. Complete work
2. Submit timesheet
3. Send invoice
4. Client/agency pays company
5. Company accounts for income
6. Contractor draws income

You pay yourself from the company through a salary and can potentially combine this with dividends to make for a more tax-efficient take-home pay.

This is all explained in detail on our Paying Yourself Through a Limited Company page.

Getting Paid Through an Umbrella Company

The basic process is as follows:

1. You complete your timesheet
2. Agency/client confirms hours
3. Agency pays umbrella
4. Umbrella calculates your pay
5. PAYE deductions
6. You receive your net pay

HMRC’s current guidance explains that an umbrella company’s reconciliation statement should show how the assignment rate is converted into gross pay, including deductions such as Employer National Insurance, pension contributions, holiday pay and the umbrella company’s operating costs.

It is also worth noting that an assignment rate isn’t necessarily your total take-home pay. So, should a job advert say £500 per day via umbrella, you shouldn’t assume that £500 per day is your gross salary.

Take a look at our Umbrella Take Home Pay page for more information.

Getting Paid as a Sole Trader

Here’s the basic process:

1. Complete work
2. Send invoice to client
   

Unlike a limited company set up, the payment belongs to the sole trader rather than a separate company.

Our Sole Trader Take Home Pay page provides more information on this route.

What Happens to an IT Contractor’s Tax?

Once again, the way in which tax works for an IT contractor depends on their business structure:

Limited Company
Once the company receives payment, you’ll need to account for the company’s tax obligations as well as your personal tax requirements.

Umbrella
PAYE is operated by the umbrella company, with tax and National Insurance deducted before you receive your pay.

Sole Trader
You will personally account for your own tax obligation through self-assessment.

For a more detailed breakdown, take a look at our Contractor Tax page.

How do IT Contractors Invoice Clients?

Once you’ve found a contract and completed the work, you’ll need to invoice the client.

This needs to include the following information:

• A unique identification number
• Your company name, address and contact information
• The company name and address of the client you’re invoicing
• A clear description of what you’re charging for
• The date the goods or service were provided
• The date of the invoice
• The amount(s) being charged
• VAT amount, if applicable
• The total amount owed
• Your bank details
• Your payment terms

What Payment Terms Should IT Contractors Use?

It’s wise to agree your payment terms with the client before the contract begins and ensure it is clear and visible on your invoice.

For example: Please pay within [insert number] working days.

A typical amount of time could be set at 7, 14 or 30 days.

If no payment date has been agreed, payment is generally due within 30 days of the client receiving the invoice or the goods/service being provided.

Late Payments: What Happens if I’m Not Paid on Time?

Unfortunately, self-employment does come with some risks, one of which is not being paid on time.

Late payments are a long-standing issue for many contractors, and the government has said it is committed to tackling ‘the scourge of late payments’ – which costs the UK economy almost £11 billion per year and is responsible for closing down 38 UK businesses every day.

If you find yourself in this situation, the first thing to check is that you’ve not made an error, for example: Was the invoice submitted correctly? Was the timesheet approved? Has the payment date actually passed?

If this all seems in order, then contact the appropriate accounts/payment department.

If your invoice remains unpaid, you can seek legal advice.

For more detailed advice on this, visit our Advice on Chasing an Unpaid Invoice page.

Managing Cash Flow as an IT Contractor

As a contractor, you will find yourself in certain financial situations that permanent employees don’t usually experience.

To ensure you manage your cash flow as effectively as possible, you’ll have to be organised and mindful of your finances.

For example:

• Keep your business and personal finances separate.
• Put money aside for tax. Don’t treat all the money you receive as available to spend.
• Track your invoices. Make sure you know what’s been invoiced, what’s been paid and what’s overdue.
• Plan for gaps between contracts. Our Should a Contractor Have an Emergency Fund? page is a great source of information for this.
• Payment timing. Remember that you won’t necessarily be paid immediately; some clients may pay at the start of a contract, while others will prefer to make payment when all the work is completed.

Checklist for Accepting an IT Contract

• Set or double-check your day rate. (depending on your business structure) Our Rates of Pay for IT Contractors page is a great source for understanding how to set your rates.
• Set payment terms.
• Find out who you need to invoice.
• Timesheets. If contracting through an umbrella company, it’s important to know how they’re approved.
• What expenses are you entitled to? Visit our IT Contractor Expenses page link to IT Contractor Expenses- What Can I Claim? page once uploaded] for more advice on this.
• VAT – is the rate quoted inclusive or exclusive of VAT?
• IR35 status.
• How long is the contract?
• Notice. What happens if either party wants to end the contract?

We hope you found this page helpful. If you need to speak to an IT contractor accountant for further advice, our team of experts are available to answer any queries, so give us a call on 01442 795 100, or email jaime.thorpe@dolanaccountancy.com. Alternatively, contact us via live chat.