Future changes which impact the use of umbrella companies

The Autumn Budget 2024 announced a significant change to tackle non-compliance in labour supply chains involving umbrella companies from April 2026. The proposal will impact end clients and recruitment agencies which use umbrella companies to employ workers and deliver payroll services. Whilst the labour supply market is at an early stage of determining how it will need to adapt to the future shift in risk profile, we share our insight on what organisations should know about this area and what should be done next.

What is the purpose of an umbrella company?

An umbrella company is an intermediary which would typically employ and pay temporary workers who are supplied to end client users of their services (either directly or via a recruitment business/agency). Many employment agencies contract with umbrella companies to deliver a PAYE option to workers, which can often be in addition to an in-house agency payroll alternative. An umbrella company holds legal responsibility for administering employment rights, as well as responsibility for accounting for income tax and National Insurance Contributions (“NIC”) to HMRC. The use of umbrella companies increased significantly following the IR35 changes in the private sector (from April 2021).

What is changing from April 2026?

The government will introduce legislation so that PAYE/NIC non-compliance will no longer sit with the umbrella company. The proposal is that either the end client (where end client engages directly with the umbrella company) or the recruitment agency closest to the end client will be responsible for any PAYE/NIC non-compliance. Further details on how these proposals will operate in practice are expected to be released in the coming months, as well as draft legislation to be included in the Finance Bill 2025-26.

Why does the government want to move obligation for non-compliance up the supply chain?

There is a wide spectrum in the level of compliance in the umbrella company market. Non-compliance can arise in multiple ways and vary in the degree of seriousness, including non-transparent pay practices that disadvantage workers, tax non-compliance and deliberate fraud. In line with a number of recent legislative changes, the government’s approach is to move the responsibility for non-compliance up the supply chain with the intention of driving more accountability and focus on compliance. Examples of non-compliance include:

• Non-transparent and confusing pay practices – There are a multitude of employment tribunal claims centred around disputes on worker pay, particularly the difference between advertised project budgets and actual taxable pay. The recent employment tribunal case of Appiah v Tripod Partners Ltd/Home Office illustrated the importance of robust contractual documentation and transparent pay practices as the claimant successfully argued employer NIC should not have been deducted from pay. This point is even more relevant with increasing employer NIC costs from April 2025.
• Fraudulent or misleading documentation – This can take the form of fraudulent affirmations or confirmations, or documents produced to demonstrate that an umbrella company is operating compliantly. However, these documents may not be representative of the actual payments made to the worker and/or reported to HMRC through the payroll. For example, Revenue and Customs Commissioners v Payroll and Pension Services (PPS Umbrella Co) Ltd – (2024) included evidence presented by HMRC where Real-Time Information (RTI) payroll submissions did not match copy payslips shared with agencies as part of due diligence exercises.
• Workers not receiving full statutory employment rights, e.g. holiday pay or pensions entitlements under auto-enrolment – The government’s 2023 Call for Evidence on the umbrella company market identified issues with workers not being paid their legal employment entitlements by their umbrella company. This issue is commonly linked to entitlement being solely calculated from an NMW pay element and not from the broader assignment rate and to the incorrect calculation of holiday pay.
• Under/overpayments when calculating income tax/NIC – the tax treatment of expenses continues to be a thorny issue, e.g. where a misunderstanding of the client’s policy and miscommunication within the supply chain can lead to mistakes on payroll. Some umbrella companies may pay all expenses as taxable, leaving the worker to claim a tax refund from HMRC. Whilst this reduces the income tax and NIC risk, end clients should be aware that it may leave their umbrella workers unhappy, and workers unable to reclaim NIC.
• Schemes which purport to pay part of the contractor’s earnings as ‘non-taxable’ – More serious non-compliance may involve part of the worker’s pay delivered ‘non-taxable’, such as a via a loan, annuity or option grants.
• Mini Umbrella Company fraud – A scheme where a larger supply is artificially set up through multiple small companies. This is usually done in order to access allowances and regimes not available to larger businesses, e.g. the Employment Allowance for NICs or VAT Flat Rate Scheme (FRS). This often includes the deliberate disguise of the true ownership and management structure of the companies.

What should client users of labour in the labour supply chain do next?

• Clients should seek to better understand their labour supply chain and evaluate the risk profile.
• Keep an open dialogue with Managed Service Providers and labour agencies to understand their response to the changes.
• Understand the implications of any draft legislation that is released in Finance Bill 2025-26.

HMRC are also strongly encouraging clients and recruitment agencies to take steps to better understand their labour supply chain and recently published Help with labour supply chain assurance — GfC12 - Tax risks, which is intended to provide best practice guidance in this area. This new guidance follows the format of similar recent GfC publications for VAT, transfer pricing and other areas of tax, as part of HMRC’s increased focus on “upstream compliance” activities.