If you’ve been following the conversation around tax compliance, you’ll know that umbrella companies are under more scrutiny than ever before. They've played a big role in recruitment, but the tides are changing, so let's take a closer look at what's going on.
What’s behind the shift?
Pre-general election, Labour’s proposals pointed to a major push for stricter tax compliance, with a particular focus on umbrella companies. Their manifesto published plans for an £855 million boost to HMRC’s budget, adding 5,000 new compliance officers, and deploying AI to spot tax irregularities in labour supply chains. The aim? Ensuring everyone pays their fair share, from contractors to those responsible for paying them.
And with ‘chain liability’ likely on Labour’s radar, staffing companies and end users still using umbrella arrangements could be held accountable for unpaid taxes. In this month’s blog, we’ll dive into why moving away from umbrella companies is a smart choice – and why it might be time for you to consider it too.
Tax complications you can't (afford to) ignore
Many recruitment agencies routinely use umbrella companies to streamline their tax processes, but non-compliance with HMRC regulations can turn this into a costly issue. Because workers employed through umbrella companies aren’t technically employed by clients or their recruitment agency, this layer of separation can expose businesses to unexpected financial and legal risks. If things go wrong, you could face backdated tax bills, interest, and fines. Here are the five most common pitfalls:
- IR35 misclassification: If a worker is wrongly classified outside IR35, your business could be liable for unpaid taxes and National Insurance.
- Non-payment of NICs: Umbrella companies that underreport earnings may leave your business responsible for backdated National Insurance contributions.
- VAT fraud and mini-umbrella companies (MUC): Engaging with MUCs involved in VAT fraud could result in your business facing unpaid tax claims from HMRC.
- Holiday pay non-compliance: Mismanagement of holiday pay by umbrella companies can lead to incorrect tax deductions and potential investigations into your business.
- Failure to deduct income tax (PAYE): Offshore payment schemes may leave your business exposed to unpaid income taxes and fines.
The lowdown on the legal risks
The legal framework surrounding umbrella companies and temporary labour is constantly changing, and keeping up with the rules can be tricky. Recent changes, such as IR35 reforms, have put more focus on how contractors and temp workers are paid, ensuring those who should be classified as employees are paying the correct amount of tax. If an umbrella company isn’t following the rules - intentionally or not - the buck could stop with your business. You may face legal issues, regulatory fines, or even reputational damage for being associated with somewhat questionable practices. With agencies and umbrella companies sometimes operating in grey areas, it’s a significant risk that can have long-lasting consequences.
How worker satisfaction affects your bottom line
Involving umbrella companies can often muddy the waters. Workers sometimes don’t understand how their wages are calculated or why certain deductions are made - and if something goes wrong, the blame can bounce between the agency and the umbrella company. This lack of transparency can lead to mistrust and complaints from workers who feel short-changed, even when you’re not paying them directly. And unhappy workers can have a direct impact on the quality of work they provide to your business. High dissatisfaction leads to poor performance, low engagement, and the constant need to rehire and retrain, creating a revolving door of temporary workers that hurts productivity, service, and ultimately your company’s profitability.
When your reputation is at stake
As more stories of malpractice and exploitation surrounding umbrella companies surface in the media, there’s a growing negative perception around businesses that engage with them. If your company is tied to poor pay practices or exploitation, it could hurt your brand, making it harder to attract talent in the future and leave clients and customers questioning whether they want to work with you.
There’s an alternative…
For a long time, umbrella companies have offered an easy route for handling payroll and taxes, but the landscape is changing fast. Labour has made it clear that compliance will be key, and there’s no room for ambiguity. The good news? There’s a simple fix: opt for PAYE (Pay As You Earn) when working with recruitment agencies. This means workers are directly employed under PAYE, ensuring tax compliance and fewer headaches for your business. It also cuts down on any risk of backdated tax issues. Many agencies offer PAYE solutions – including gap personnel group - and choosing one helps build trust with temporary staff, boosting satisfaction and productivity.
Did you know there are over 170 regulations affecting the UK payroll industry, with a couple of changes introduced every year? These are governed by a variety of agencies including HMRC, GLAA, and The Pensions Regulator, in addition to Council departments, the DWP, and Child Maintenance Service. All require different information, to be delivered against varying deadlines, and through diverse methods of communication. And the legislation varies depending on employment type.
For us, it’s about staying ahead of the curve. Last year our internal payroll team maintained an error rate of less than 0.1% whilst processing almost 50,000 individual workers through our payroll system. They’re keeping a close eye on new regulations to make sure we continue to offer a service that’s both ethical and reliable, no matter what changes come our way. If you're a business looking to navigate this landscape, or just want advice on ensuring your workforce is fully compliant, get in touch today. We’re here to help with umbrella-free solutions.
