Concerns continue as to how UK umbrella tax legislation will work

The Freelancer and Contractor Services Association (FCSA) and others have reported that HMRC has confirmed how the new "umbrella" tax legislation is likely to work. 

Online posts by the FCSA and industry insiders suggest that a "joint and several liability" approach will be adopted pending acceptance by the exchequer secretary to the Treasury.  It is unclear what this would mean, with much of the detail to be confirmed on what those in the industry are calling "'L-day" – or "legislation day" – that is widely believed to be due in mid-July. 

Key questions remain about how the legislation will work in practice, with a possibility (depending on what the Treasury decides) that all involved in labour supply chains will look at reframing their commercial models so that they move into a tax regime with less onerous impacts.

What does this mean for agencies and umbrella companies?  

According to industry posts, HMRC favours adding a new chapter to the Income Tax (Earnings and Pensions) Act 2003 (ITEPA)  to introduce joint and several liability between the lead "agency" in the supply chain (that is, the "agency" that holds the contract with the end client) and umbrella, or where there is no "agency" in the supply chain, between the umbrella and the end client. 

Although it is not clear what this means and how it will work, reports suggest that the umbrella company will have primary liability for any tax shortfall in payments made by umbrella companies to workers and the lead agency or end client will be liable if the umbrella fails to pay or cannot pay the tax and NICs. 

It seems that there will be no "reasonable steps to pick a good umbrella" defence for an agency (or end client, where there is no agency in the chain). Until we see the draft legislation we won't know how this will work legally but it is possible that it will involve some form of tax debt transfer similar to that in the managed service company (MSC) legislation and the off-payroll working legislation (often referred to as IR35).  

Uncertainty continues

While the reports provide useful insight into how the new regime may work – for example, it looks like the umbrella company will be permitted to continue to hold the employer reference number – there are still significant details that remain unclear.

What is an umbrella company?

For joint and several liability to work it will be necessary to clearly define what (and what is not) an "umbrella company". Any definition will need to clearly exclude staffing companies and other employment businesses (which do not operate as umbrella companies) otherwise the legislation will be unworkable.

In our experience, where there is a definition there is a loophole. It is difficult to define an umbrella company narrowly (by specific reference to what it does or doesn't do) without creating loopholes or unintended consequences. And, as we and many others have pointed out over the years, if it is a wide definition covering any organisation that, at least in part, seconds its employees to work for others then staffing companies and some platforms (that engage and pay workers via their own payroll), as well as many government departments and professional service organisations will be caught.

Any new umbrella company definition will also likely draw attention to the fact that so-called Construction Industry Scheme (CIS) umbrella companies do not, in fact, operate as Pay As You Earn (PAYE) umbrella companies. Tax liability risk for "lead" agencies (including MSPs in the supply chain) under chapter 7 part 2 of ITEPA (agency worker tax legislation) remains particularly high in relation to the use of CIS umbrella companies, especially where "supervision, direction or control" checks have become a tick-box exercise.

Potential future confusion about which tax regime should apply if the new legislation is not carefully thought through

Further details are required to understand how existing tax legislation will apply alongside the new umbrella legislation.  

How will the new umbrella tax regime work alongside the agency worker tax legislation under which agencies pay workers under PAYE, and alongside IR35, and the MSC legislation? Overlap seems inevitable. Uncertainty will be used by different entities in the supply chain to deflect tax payer liability up and down the chain and potentially to end clients. This will lead to enforcement difficulties for HMRC and compliance uncertainty for all parties involved in labour supply chains.

In other words, a key question for all will be whether any particular situation comes under:

• this new umbrella tax regime (with umbrella and agency/managed service provider (MSP) being liable and no statutory defences being available), or
• the agency worker tax regime (with the agency or MSP which has the contract with the end client being liable, subject to some defences), or
• CIS, or
• IR35 (with the "fee payer" or end client being liable, subject to some defences), or
• MSC (with all sorts of entities and individuals potentially being liable).

Clearly, some regimes will be more attractive than others depending on who you are: in any specific situation HMRC may prefer one regime, the end client another, the MSP another, and the staffing company another (with any relevant worker watching on with a mixture of bemusement and confusion, and any personal service company contractor hoping that at least Chapters 8 or 9 of ITEPA won't be where the roulette ball lands, being the only regimes where his or her personal service company ends up as primarily liable).

One interesting issue is how the courts (and, before them, Parliament) will view a regime which potentially allows HMRC to pick and choose which tax regime it applies to any particular situation based on how easy it is to apply and how scary it is for the wealthiest members of the supply chain, rather than on the basis of what was Parliament's probable intention?

End-client awareness

To date many end clients may be unaware of, and possibly unconcerned about, the impact of new umbrella tax legislation. But, as when the off-payroll working rules were introduced, end-client interest grew quickly once faced with the prospect of tax liability. Anyone engaging with a UK "employer of record" company will also want to keep a close eye on this.

End clients will also want to start thinking about how their staffing suppliers work with umbrella companies and consider whether they need to review any contractual protections they have with their suppliers in respect of tax non-compliance in the supply chain.

Osborne Clarke comment

Assuming that the reported "joint and several liability" approach is accepted by HM Treasury's exchequer secretary, it looks like umbrella companies will be allowed to continue to hold the employer reference number. Umbrella companies will, no doubt be relieved about this. However, the prospect of joint and several liability for "agencies" – which we should assume will include MSPs that sit in the supply chain – and in some circumstances end clients will still drive a need for increased scrutiny of umbrella company contractor payments.  

Larger well-established umbrella companies will be better placed to demonstrate compliance than new market entrants. 

And there will certainly be a good look by many at what the best contractual supply model will be going forward – models that attract the least onerous tax regime for a particular type of entity (depending on where it sits in the supply chain) may become more popular, and many may reframe their commercial models to cater for that.

Umbrella companies and organisations that currently rely on their services will want to start planning now how the new umbrella company legislation  will affect them and their risk profile – it will take time to review arrangements and implement any new compliance checks and contractual assurances or reframe their commercial models.   

If you would like to discuss some of the risks and opportunities, please do get in touch.