On 30 November 2021, HM Treasury published a call for evidence on the operation of the umbrella company market due to concerns of tax non-compliance and risks to employment rights. More than 400 responses were received. Having now considered those responses, HMRC has updated its guidance on working through an umbrella company. The Department for Business and Trade has published separate dedicated guidance on Key Information Documents (KIDs) for agency workers employed through umbrella companies. Additionally, the UK government (the Government) is exploring ways to support workers through guidance and online tools.
On 6 June 2023, HM Treasury, HMRC and the Department for Business and Trade published the summary of the responses to the call for evidence and launched a new consultation on proposals to regulate umbrella companies, which is open until 29 August 2023.
What is an umbrella company?
There is currently no statutory definition of an umbrella company. It is accepted that an umbrella company is a company which acts as the employer for an independent worker who then completes temporary assignments for an end client. Usually, the process starts with an employment business (recruitment agency) recruiting a worker for a short-term assignment for the end client. However, instead of signing a contract with the end client, the worker becomes an employee or worker of an umbrella company. The end client pays the umbrella company the amount of the worker’s gross pay and the umbrella company deducts a fee for its services followed by taxes and National Insurance contributions, with the net balance being paid to the worker.
Some companies and employees may prefer to work through umbrella companies because they can simplify administrative tasks for both parties and provide financial security to workers who benefit from having one single employer. However, umbrella companies have faced scrutiny and concerns regarding tax compliance and employment rights. The Government has been exploring ways to regulate and address issues related to umbrella companies to protect workers and ensure fair practices in the market.
Defining an umbrella company
The consultation is considering two options for how to define an umbrella company:
Option one: create a definition for umbrella companies and create a finite list of acceptable engagement structures workers can have with employment businesses.
Under this option, an umbrella company would be defined as a corporate entity that employs a worker with the view that they will carry out work in line with arrangements between an employment business and the end client.
Engagement structures between employment businesses and workers would be limited to the following four methods:
- The employment business employs the worker under a contract of service (essentially an employment contract).
- The employment business engages with the worker under a contract for services (under which the worker is usually regarded as self-employed or a worker but not an employee).
- The employment business engages with a corporate intermediary (the umbrella company) which is not controlled by the worker. That corporate intermediary engages the worker.
- The employment business engages with a worker’s personal service company (PSC)
Under this definition, it would be the employment business’ responsibility to adhere to one of the four models outlined above and to ensure regulation standards are met. This could place a large burden on employment businesses, which the Government would propose to mitigate by allowing a potential due diligence “all reasonable steps” defence.
Option two: define umbrella companies by applying a three-part test:
The three-part test to determine if an organisation is an umbrella company would be as follows:
- There must be three separate businesses involved in supplying the worker: the employment business, the umbrella company and the end client.
- The umbrella company needs to have a direct contractual relationship with the worker but is not responsible for providing work-finding services – that is the role of the employment business.
- The umbrella company will receive a form of commission or fee, often referred to as their “margin”, for the services they provide.
This option would see umbrella companies being defined as such based on their activities and contractual relationships with others in the supply chain. It could result in them being defined as an umbrella company in some situations, but not necessarily others.
Tackling tax non-compliance
The consultation also takes note of the existing HMRC powers to tackle tax non-compliance by umbrella companies, particularly when they act as promoters of tax avoidance. Additionally, HMRC uses its Spotlight series to warn workers of possible avoidance schemes.
The consultation proposes a number of different options for tackling tax non-compliance:
- Option 1: mandating that due diligence be conducted by either the end client or the employment business. This would be a broad requirement that looks at all forms of tax non-compliance including error, avoidance and fraud.
- Option 2: transferring the umbrella company’s tax debt to others. Under this option, the Government would introduce legislation to give HMRC power to collect an umbrella company’s tax debt from another business in the labour supply chain (as can currently happen in cases of non-compliance with the off-payroll working rules).
- Option 3: treating another organisation as the employer. This would involve creating legislation that would deem another party in the labour supply chain to be the employer for tax purposes and therefore responsible for operating PAYE. That is to say, the umbrella company would no longer be responsible for calculating tax and operating PAYE, and the responsibility will be transferred to either the employment business or the end client. However, this option is unlikely to receive much support as it removes one of the key benefits of hiring through an umbrella company.
The outcome of this consultation will be of interest not only to employers who use umbrella companies, but also to employers who engage suppliers who use umbrella companies and those workers engaged through such companies. Stay tuned…
In addition to determining areas in need of further regulation, the consultation seeks views on which government body should enforce umbrella company regulations and opinions on options for proactive or reactive enforcement activity. The Government’s current approach is to expand the remit of the Employment Agency Standards Inspectorate (EASI) so that it has the ability to:
- seek labour market enforcement undertakings and orders;
- prohibit individuals from running recruitment businesses; and
- prosecute in the public interest.
The consultation suggests that the EASI could take a reactive and proactive approach (similar to its current approach with the off-payroll working rules) or a purely reactive approach (similar to that taken by an ombudsman).
If you have questions on any of the points raised in this article, please do not hesitate to reach out to a member of the Dentons team.