What is an umbrella company?
There is no statutory definition of umbrella company. Broadly, an umbrella company is a business which is often used by recruitment agencies to pay temporary workers. In most cases the umbrella company will employ the temporary workers and pays wages through PAYE. Ordinarily the work for the individual temporary worker is found by an employment business. The work is carried out for an end client, often on a short-term arrangement.
Purpose of the consultation
The government cites its three main objectives for the umbrella company market:
- Deliver improved outcomes for workers;
- Support a level playing field in the umbrella company market; and
- Protect taxpayers from the significant revenue losses that currently arise from non-compliance.
Meeting these objectives will, according to the government, enable both people and businesses to succeed in the labour market, supporting economic growth and ensuring everybody feels its benefits.
Regulating umbrella companies for employment rights
According to the consultation document the government is considering a variety of options in order to tackle employment rights issues within the umbrella company market – such as pay, or holiday pay, being withheld. An umbrella company may be regulated as an employment business, but only if they are providing services normally performed by employment businesses, such as work-finding and supply to hirers. Unless their other activities brings the umbrella company within the scope of the current regulations that apply to employment agencies and employment businesses, umbrella companies are generally unregulated.
The government first committed to regulating umbrella companies in the Good Work Plan in 2018. The consultation sets out that in order to enable regulation to be introduced, umbrella companies must first be defined by law. Two possible approaches are proposed to define umbrella companies, both options would enable the government to be precise about the businesses to be brought into scope and ensure subsequent regulations or standards crystallise on the right business at the right point in the supply chain.
The government is also considering what aspects of the umbrella companies' involvement in the supply chain should be covered and how any new standards would be enforced.
Proposals
Defining umbrella companies
The government is seeking views on which option of defining umbrella companies would best enable the regulation of the current and future umbrella company market, by effectively targeting regulations at the right business in the supply chain and being flexible enough to adapt to market changes. Two approaches have been put forward by the government as set out in the consultation document:
Option 1 – defining umbrella companies and limiting acceptable engagement structures
The definition would be linked to four different permitted engagement and payment methods in the recruitment sector (one of which reflects an umbrella company arrangement). This option only seeks to regulate recruitment umbrella companies' involvement in recruitment sector supply chains, which typically involve a recruitment agency offering work-finding services to an individual.
Option 2 – defining umbrella companies by applying three tests
The alternative approach sets out three proposed conditions that a business should meet to be considered an umbrella company. This option does not scope different permitted engagement and payment methods.
Umbrella company standards
After defining umbrella companies, the government will need to make regulations containing the minimum legislative requirements for umbrella companies to comply with. Two options are being considered:
Option 1 – the regulation should set the minimum legislative standards in just a few key areas of concern. The initial areas of focus could include:
- Handling of pay and holiday pay – obliging the umbrella company to pay the individual even if they have not been paid by the employment business.
- Use of additional services – preventing umbrella companies making the entry into an employment contract conditional upon the individual agreeing to pay for additional services offered by the umbrella company.
- Provision of a key information document – placing a positive duty on umbrella companies to pass on accurate information employment businesses need to provide a Key Information Document (KID). It would remain the responsibility of the employment business to issue the KID.
Option 2 – is to introduce regulations that go beyond these few key areas that have been reported to the government. This would involve setting minimum standards about how umbrella companies should perform their function as umbrella companies to support employment businesses in meeting their statutory obligations as the business responsible for providing work-finding services and supplying the individuals. For example, employment businesses must ensure only suitably qualified staff are supplied to perform work and must inform hirers if they become aware of information that might make the individual unsuitable to continue in a role. Further clarity could be provided by employment agencies and businesses with regard to pay rates.
Enforcement of umbrella company standards
The government is inviting views on what body should enforce umbrella company regulations, as well as how proactive this enforcement activity should be. The government's current preferred approach is to regulate umbrella companies through expanding the remit of the Employment Agencies Standard (EAS) Inspectorate, which already regulates employment agencies and employment businesses. The consultation also notes that the government has already committed to establishing a single enforcement body for employment rights, and that the EAS could be incorporated into a single enforcement body if the government decides to legislate for this in the future.
The government previously committed to introduce new civil penalties for breaches under the EAS-enforced regime that result in wage arrears. The government is interested in views on whether it should build on this and extend civil penalties for wage arrears to breaches of umbrella company regulations.
Tackling tax non-compliance in the contingent labour market
The government is consulting on measures to reduce tax non-compliance in the umbrella company industry, with a particular focus on combatting fraud and tax avoidance.
The government considers that the current model of the temporary labour market encourages end clients and employment businesses to outsource obligations and this creates risk. It points to inaccurate PAYE deductions, workers not receiving the correct national insurance credits and the relative ease in which umbrella companies can be established and then liquidated, meaning that tax liabilities remain unpaid. The government considers that non-compliant businesses can undercut compliant businesses, creating an imbalance in the market.
In its consultation, the government suggests three high-level policy proposals to tackle tax non-compliance. These are:
- mandating due diligence in the labour supply chain;
- transferring the umbrella company's tax debt to another party in the supply chain; and
- deeming the employment business (which supplies the worker to the end client) to be the employer for tax purposes.
Mandatory due diligence
The government is asking for views on its proposal to require businesses to carry out a minimum level of due diligence in their labour supply chains. The purpose of the checks would be to ensure that umbrella companies within the chain comply with tax obligations and treat workers properly. The government indicated it could set out the requirement to carry out due diligence in legislation, but specify the particulars and extent of the due diligence exercise in guidance. HMRC has already published guidance on supply chain due diligence which the government could use as a starting point for the specific requirements to impose.
As this is just a broad brush policy idea at this stage, there are a lot of unknowns. From the consultation, it isn't clear which parties in the supply chain would be required by law to carry out due diligence on umbrella companies (i.e. those engaging directly with the umbrella company or more remote parties in the supply chain). Similarly, it isn't clear precisely what the due diligence requirements would entail. With potential penalties for non-compliance, those entering labour supply chain arrangements would need to act cautiously when entering new contracts and build in robust procedures.
Transferring the tax debt
Another option would be for the government to legislate to give HMRC the power to transfer an umbrella company’s tax debt to another party in the labour supply chain, in circumstances where the debt could not be collected from the umbrella company itself. This would principally cover unpaid income tax and employee and employer national insurance contributions – but the government is also considering extending it to other unpaid tax liabilities such as VAT. The government acknowledges the potential impact on those businesses where a tax debt is transferred, asking for views on appropriate safeguards.
HMRC uses existing powers to recover unpaid employment taxes from the individual worker where certain requirements are met, but the government suggests that there are circumstances where it would be more appropriate to seek to recover from others in the supply chain. We have already seen the government introduce this power when it made changes to the IR35 off-payroll working regime, which took effect in April 2021. If introduced, this would be a significant change to the umbrella company industry. Businesses would need to ensure robust due diligence procedures are in place, with appropriate contractual protection. It is likely to result in end clients and employment businesses reconsidering whether or not to outsource obligations, or undertake these in house.
Deem the employment business to be the employer for tax purposes
The final option to combat tax non-compliance considered by the government in this consultation is to deem the employment business to be the employer for tax purposes. The deemed employer would be responsible for deductions of income tax and national insurance contributions. Whilst a payroll bureau or umbrella company may be used to calculate the liabilities, the deemed employer would remain ultimately responsible for PAYE being operated correctly.
Adoption of this measure might see workers having different employers for tax and rights purposes, and the government acknowledges that this may lead to potentially moving away from using the umbrella company model.
Targeted measures to address tax avoidance by mini umbrella companies
In addition to the above general proposals, the government raised concerns around specific tax measures which it considers are open to abuse. In particular, the government suggests that some in the umbrella company industry are abusing the employment allowance and VAT flat rate scheme. The government noted that some businesses were disaggregating into smaller entities to meet the eligibility requirements for employment allowance or the VAT flat rate scheme.
Comment
It is unsurprising that the government is looking to regulate this largely unregulated area. The Good Work Plan highlighted the need for clarity in this area to help protect lower skilled and lower paid workers. Whilst the consultation is taking place it would be sensible for umbrella companies, employment businesses and end-clients to review the current arrangements to identify any areas of risk.
