Are your umbrellas waterproof? Time to check your labour supply chain risk

Umbrella companies, which employ workers whose labour is supplied to an end-client by an agency, provide flexibility in the labour market. Most comply with their payroll withholding and employment law obligations, but the Government is consulting on proposals to ensure those that don’t are made to comply or excluded from the market. As regards payroll withholding obligations, these proposals could impose a statutory obligation on end-clients to undertake due diligence on any umbrella companies in their labour supply chain or could make them responsible for umbrella companies’ unpaid employment tax debts. Similar obligations might be imposed on employment businesses in the labour supply chain, or they could themselves be required to operate payroll withholding for umbrellas companies’ employees. This article looks in more detail at these employment tax proposals and what end-clients and employment businesses should consider doing now.

Companies that employ workers whose labour is supplied, on a temporary basis, to an end-client by an employment business (or recruitment agency) are often referred to as ‘umbrella’ companies by HMRC. But there isn’t currently any agreed definition of ‘umbrella company’ that’s used consistently in the market.

Accordingly, the consultation (see our previous article) proposes the following two alternative ways to define ‘umbrella company’. This definition could apply for both employment law and employment tax purposes (at least in relation to any transfer of debt provisions introduced – see below):

• Defining an ‘umbrella company’ based on the employer’s business model (which, if adopted, would be accompanied by a prohibition on more than one person or business being in the labour supply chain between the worker and the employment business); and
  
  
• Defining an ‘umbrella company’ based on whether three tests are met in relation to a specific supply of workers (meaning that an employer might be an ‘umbrella company’ in relation to one engagement to supply contingent labour, but not in relation to another).

There are three proposals for excluding non-compliant umbrella companies from the labour market:

A statutory due diligence obligation for end-clients or agencies

The first proposal is to require the end-client, or the employment business that supplies the end-client with the relevant workers, to perform appropriate due diligence on umbrella companies in the labour supply chain.

The consultation proposes that mandatory due diligence should aim to secure the labour supply chain against all forms of non-compliance (i.e. errors, avoidance, and fraud) and suggests that other taxes (e.g. VAT) might also be in scope.

Whether the end-client, or the employment business that supplies the end-client with the workers, has the due diligence obligation would be determined by the specific contractual arrangements in place. Where the obligation sits with the employment business, reputationally, the end-client is nevertheless likely to require appropriate comfort on the effectiveness of its due diligence procedures.

Though carrying out appropriate due diligence would be a statutory obligation, the Government does not propose to legislate for which specific checks should be undertaken. It would be for end-clients and employment businesses to design their own procedures appropriate to the risks in their specific markets. However, the Government invites views on this and would provide guidance on appropriate due diligence principles and how to demonstrate compliance.

Penalties could be imposed for failure to carry out appropriate due diligence. These could be fixed or tax geared (by reference to the tax at stake due to umbrella company non-compliance). However, the Government would consider appropriate safeguards (e.g. a defence of being able to demonstrate that reasonable care was taken when performing due diligence).

Transferring umbrella companies’ debts to end-clients or agencies

The second proposal is to transfer the liability for PAYE and National Insurance Contribution (NIC) debts (and, potentially, for other tax debts such as VAT) to other businesses in the labour supply chain where there is no realistic prospect of recovery from a non-compliant umbrella company.

If taken forward, these provisions might use the definition of ‘umbrella company’ adopted for employment law purposes. Alternatively, to reduce the risk of non-compliant employers restructuring to fall outside that definition, any new debt transfer provisions might instead apply to engagements with specified characteristics. The Government is also considering whether debt transfer should apply to tax debts of other non-compliant employers in the labour supply chain in addition to those of umbrella companies.

The Government proposes that a transferred debt would, in the first instance, move to the employment business that supplied the relevant workers to the end-client. If there were no employment business from which the debt could be recovered (or no realistic prospect of recovery from any such business), it would transfer to the end-client. End-clients might, of course, be contractually exposed to any debt transferred to an employment business in any event.

Appropriate safeguards would be considered. For example, excluding any tax debts that arise from genuine business failures from the transfer rules, and/or excluding transfers to businesses that can demonstrate they took reasonable care to perform appropriate due diligence on their labour supply chain.

Move responsibility for PAYE and NIC to a deemed employer

The third proposal is to deem either the employment business that supplies labour to the end-client, or the employment business that contracts directly with the umbrella company, to be the relevant workers’ employer for employment tax purposes. Under this proposal end-clients that engage directly with an umbrella company would be deemed to be the employer for payroll withholding purposes.

It’s not yet known which proposals will be taken forward, or when the new rules would come into effect, but it seems clear that further change is coming to the contingent labour market.

End-clients and employment businesses who engage – directly or indirectly – with umbrella companies should therefore start thinking now about what these prospective changes could mean for them and how any new obligations could be managed.

Questions that end-clients and employment businesses can consider at this stage include:

• Do you know what umbrella companies are in your supply chain? How do you currently identify entities that you consider to be ‘umbrella companies’?
• Could you identify any entities that fall within either of the proposed new statutory definitions? If either of these definitions is adopted, will the number of ‘umbrella companies’ in your supply chain change?
• What do you know about each of the entities in your labour supply chain? How do you confirm they comply with their payroll withholding obligations and don’t engage in tax non-compliance?
• Does your current due diligence process need to change? Could you demonstrate that your current procedures take reasonable care to detect employment tax errors, avoidance, and fraud in your supply chain if a statutory due diligence obligation is introduced?
• How are your contractual and reputational risks managed? If you’re an end-client, are you contractually exposed to any payroll debt being transferred to an employment business that you engage with? How would you manage the reputational damage with key stakeholders if any non-compliance in your labour supply chain came into the public domain?

The consultation closes on 29 August 2023. Please contact Anne-Marie Robinson, Colin Ben-Nathan, or your usual KPMG in the UK contact, to discuss what action you might take now to assess your labour supply chain risks.

For further information please contact:

• Anne-Marie Robinson
• Colin Ben-Nathan