Government crackdown on umbrella companies to impact payroll providers in 2024

The UK Government launched a consultation in June 2023 to tackle tax non-compliance in the umbrella company market, after evidence gathered in 2022 suggested that it was causing harm to workers, businesses and taxpayers.

Many organisations in the private and public sectors – recruitment agencies in particular – use umbrella companies to pay temporary workers and provide a flexible workforce.

But the rise in the use of umbrella companies by employment intermediaries is, in some cases, being used by organised crime groups (OCGs) to exploit both the UK tax system and employees.

Rogue umbrella companies have been able to flourish and undercut their compliant counterparts as a result of a blend of ineffectual policy, tax rules and company law.

To overcome this, the Government is seeking views on their proposals to address the tax and employment rights of these umbrella companies.

Of course, legislative requirements imposed on mini umbrella companies will be welcomed by compliant payroll companies, as it will discourage rogue traders from entering the market.

It is likely that the Government will place many more restrictions on recruitment companies than payroll providers.

However, there are several proposed changes within the consultation which will directly impact payroll companies in 2024, as Helen Cummings, consultant solicitor in the contentious tax team at Jurit LLP, discusses.

Legislative definition and regulation

Mini umbrella models will have a legislative definition in the future and will become regulated. This means that, rightly or wrongly, payroll companies operating a mini umbrella are more likely to be caught by the legislation and pursued by HMRC.

In view of this, payroll operators may want to seek legal advice on their business structures to ensure compliance with future legislation and will need to plan this into their budgets for 2024 and beyond.

Restrictions on supply chain

We can expect to see restrictions put in place so that only one person or business is permitted in the supply chain between the employment business and the individual to be supplied to do the work.

This is to overcome the problems associated with brokers – those who introduce payroll providers to recruitment providers -whilst having an interest in the payroll providers themselves.

Some brokers will introduce a payroll company to a recruitment provider who is linked to one of their directors.

When that payroll provider falls through, they recommend another – again, linked to their directors, thus lining their own pockets, and so on. The recruitment company, however, does not realise the association between these providers because they believe they have been introduced by an independent broker.

This is what HMRC is arguing that companies should be aware of by undertaking better due diligence on brokers too.

Creation of more formal paper trails to support HMRC

HMRC will expect to see an agreed contract of service between payroll companies and the recruitment provider.

This means that the payroll company will need a direct contractual relationship with the individual who is supplied to carry out the work, and a separate supply agreement with the employment business.

Creating a paper trail in this way will give HMRC a clearer path to follow when investigating any malpractice. It will also remove the involvement of so-called parent companies in any chain and will ensure director responsibility.

Mandatory due diligence

Because of new statutory requirements, payroll companies can expect to be on the receiving end of many more due diligence questions from recruitment companies, as they seek to avoid becoming responsible for payroll tax debts. They will also want additional proof that PAYE calculations are correct.

Payroll providers will need to operate in a much more open and transparent way as they consider their customers’ due diligence requirements and build that into their operations to secure work.

More due diligence will mean more administrative burden on both recruitment companies and payroll providers. This additional red tape will make it hard SMEs who will likely struggle to resource the requirements of mandatory due diligence.

The signs that something is fraudulent can be so slight, that companies will need to invest in training at their cost, which will add to the financial burden for SMEs and start-ups.

Speaking of start-ups, the air of suspicion now hanging over payroll means that it will become much harder for companies to start a new payroll business, as the limited due diligence information available may, wrongly, flag to a recruitment company that something is not right.

This will make it hard for new entrants into the market to get over the initial threshold of due diligence to start trading properly. There will also be much less room to refuse information requests on the basis that documents are commerciality sensitive.

More burden for company directors

Personal Liability Notices allow HMRC to hold company directors personally liable for a tax loss as well.

However, currently, there is no mitigation built into the system. The new legislation will have to address that for those directors who have acted in good faith and have been compliant throughout with HMRC.

A UK Director will also need to be in place before employment allowance can be claimed. However, payroll providers can change directors during the course of a company’s life, so it is unclear how this requirement will be monitored.

In tandem with this, payroll software may be amended to ensure that a UK Director is appointed before employment allowance is claimed.

More VAT assessments from HMRC

HMRC is likely to continue its focus on issuing VAT assessments in 2024, with the aim of recovering money lost to fraud.

And it’s not just payroll providers that will be targeted – the companies that traded with fraudulent operators will also be at risk if they cannot demonstrate that they unknowingly engaged with a fraudulent operator.

To compete in the market in 2024, mini umbrella payroll providers will need to adapt to thrive and Jurit can help. The same is true of advising recruitment providers, who with the guidance of our contentious tax team, will have to be increasingly cautious about following the guidance set out.

Given the additional due diligence and requirements for more transparency, you will need to prepare a strong marketing strategy in 2024, to prove to recruitment providers that you are compliant and worthy of the company taking on the commercial risk of the engagement.

This article was recently featured with Reward Strategy – the leading trade publication for the payroll industry.