Hot on the heels of the off-payroll working rules, which transferred responsibility for accounting for income tax and National Insurance Contributions (NICs) for 'inside IR35' contractors from their personal service companies to the staffing companies that engage them, the government is now proposing to introduce legislation with a similar effect in relation to umbrella company workers.
The proposal
In a bid to tackle non-compliance in the umbrella company market, as announced in October's Budget, where there is an umbrella company in a labour supply chain, the government is proposing to move responsibility for accounting for Pay As You Earn (PAYE) income tax and NICs from the umbrella company which employs the worker to the staffing company which supplies the worker to the end user client. If there is no staffing company in the supply chain and the end user client contracts directly with the umbrella company, the end user client will have responsibility to account for the worker's PAYE income tax and NICs.
The impact on staffing companies
This is a blow to staffing companies which already carry out extensive due diligence to ensure that the umbrella companies in their supply chains are not involved in non-compliant tax structures. If they prefer not to operate payroll themselves, staffing companies will still be able to use umbrella companies to supply workers and operate payroll on their behalf, but the liability for PAYE income tax and employee and employer NICs will move from the umbrella companies to the staffing companies. In managed service provision or recruitment process outsourcing scenarios, as the entity contracting with the end user client, the managed service provider (MSP) or recruitment process outsourcer (RPO) will be responsible for accounting for the tax and NICs. However, MSPs and RPOs are likely to pass this burden down the chain in their contracts with staffing companies, including through the use of indemnities. Whilst staffing companies can do the same in their contracts with umbrella companies, contractual provisions, including indemnities, will be of little value against an unscrupulous umbrella company which simply winds itself up if it needs to escape liability.
The proposal is good news for umbrella company workers. It will reduce their risk of being inadvertently involved in non-compliant tax structures and receiving potentially large, unexpected tax bills. The proposal should also have the government's desired effect of driving non-compliant umbrella companies out of the market. For staffing companies, it is yet another tax burden. However, for those which already ensure compliance in their supply chains, it will increase their ability to compete, if competitors, who previously turned a blind eye, begin to scrutinise the umbrella companies they work with. Although few and far between, end user clients that contract directly with umbrella companies may want to escape this new tax burden by inserting an intermediary between them and the umbrella companies. Staffing companies may benefit from this. Compliant umbrella companies will also benefit if this proposal succeeds in driving unscrupulous competitors out of the market. However, they may lose business if staffing companies decide to take on the administrative and employment law rights protection burden, as well as the tax burden, of engaging workers directly instead of via umbrella companies.
Next steps
The Government intends to publish full details of the proposal and draft legislation in the coming months. Although stakeholders will have the opportunity to give the government feedback on the detail of the proposal, this transfer of responsibility to account for tax will come into effect in April 2026.
It's a severe blow to the already heavily regulated recruitment services sector, which will effectively become the government's regulator for the umbrella company market. A better solution would be for the government to regulate the umbrella company market. However, on the positive side, this measure may well achieve the desired effect of abolishing, or at least significantly reducing, the high levels of tax avoidance and fraud in the umbrella company market. This can only be a good thing for the recruitment services sector.
More information on the proposal can be found in this policy paper: Tackling non-compliance in the umbrella company market - GOV.UK