Changes to payroll tax responsibilities for employment businesses and umbrella companies

Introduction 

Umbrella companies are often used by employment businesses (for example, recruitment agencies) as a way of paying the temporary workers they place in roles with their clients.

Although many umbrella companies comply with their tax and legal obligations, a significant number have been associated with tax avoidance arrangements and, in some instances, tax fraud.

Since 2023, the Government has been considering various options intended to reduce tax non-compliance in the umbrella company market.

Typical umbrella company structure

In a typical umbrella company structure:

1. an agency (the employment business) will find short term placements for temporary workers with the agency’s clients (the end client); and
2. the agency will contract with an umbrella company that then actually employs the temporary workers, pays their wages and administers payroll to account properly for Pay as You Earn (PAYE) and National Insurance Contributions (NICs). 

History

HMRC first consulted on tax non-compliance by umbrella companies in June 2023. 

In October 2024, following the close of this consultation, HMRC published an estimate that, in the 2022/23 tax year, non-compliant umbrella companies were responsible for the UK exchequer losing hundreds of millions of tax revenue.

In an effort to close this tax gap, HMRC announced that they intended to move the responsibility to account for PAYE on wages paid to temporary workers away from the umbrella companies that employ them. Instead, HMRC proposed to shift this tax compliance responsibility from the umbrella company to the employment business that supplies the temporary worker to their end client.

HMRC also proposed that, if there is no employment business in the relevant labour supply chain, the tax compliance responsibility would sit with the end client that the temporary worker is working for.

On 4 March 2025, HMRC followed up their October 2024 announcement with a formal response to their June 2023 consultation document.

The new legislation

This summer, HMRC finally released the draft legislation intended to make employment businesses jointly and severally responsible (with umbrella companies) for accounting for PAYE on payments to workers supplied via umbrella companies. Where there is more than one employment business in the labour supply chain, it is the employment business that has the direct contractual relationship with the end client that is jointly liable for the tax. Where there is no employment business involved and the end client contracts directly with an umbrella company, it is the end client that will be jointly liable.

HMRC have also explained that further legislation will be introduced to provide HM Treasury with the power to make regulations imposing an equivalent joint and several liability for NIC purposes.

Alongside the draft legislation, HMRC also published a policy paper in which they reiterated that one of the strong drivers behind the changes is a belief that recruitment agencies can decide which businesses enter their labour supply chains, and they have the power to prevent illegitimate operators from entering the market.

Which workers does this impact

This measure is expected to impact approximately 700,000 individuals who work through umbrella companies.

“Umbrella worker” is defined broadly as being any person whose services are supplied via an intermediary that employs them or purports to employ them. This means a wide variety of employment relationships could be caught by the draft legislation, including employers of record and some consultancy arrangements.

It is worth noting that the new umbrella company legislation sits alongside (and will not alter) two existing legislative regimes designed to improve tax compliance in labour supply chains:

1. Arrangements involving an individual providing services via their personal service company (PSC) will continue to be governed by the Off Payroll Working Rules (also referred to as the IR35 regime). The IR35 regime has, in some respects, provided a blueprint for the umbrella company changes by demonstrating the effectiveness of pushing ultimate tax compliance responsibility onto bigger players in the supply chain. These rules have greatly eased HMRC’s ‘policing’ burden by causing a shift in market practice away from the use of PSCs. The umbrella company changes are expected to have a similar effect: incentivising those paying for labour to either stop using the services of umbrella companies or contract only with those umbrella companies that demonstrate robust tax compliance procedures.
2. Agency workers will continue to be governed by the agency worker tax regime. This means that, where there is no umbrella company interposed between the agency and the individual worker, it will continue to be the case that the agency should generally be deemed to be the employer and be responsible for deducting income tax and NICs.

It is anticipated that this change will be positive for workers. For example, by reducing the enquiries they receive from HMRC through ensuring that the correct tax is deduced from their pay and also ensuring that they receive the statutory employment rights, benefits and protections to which they are entitled under employment laws.

However, this change is generally expected to have a minimal impact on workers from a day-to-day perspective. That said, if an agency decides to pay a worker via their own payroll rather than using an umbrella company, the worker’s employment status would change to that of an agency worker. Thereby granting them employment rights and protections in accordance with the Agency Workers Regulations 2010 and other applicable employment laws.

What next for businesses

The new rules are due to come into force on 1 April 2026 and because of this shift in risk (from the umbrella company to the employment business and/or end client), both:

1. employment businesses; and
2. businesses engaging temporary workers who use umbrella companies,

 should think now about taking steps to be ready. These should include: 

• reviewing their labour supply arrangements to identify the use of umbrella companies;  
• increasing due diligence controls to ensure umbrella company arrangements are entered into with reputable companies that understand and comply with employment law and payroll tax obligations; and 
• implementing appropriate contractual safeguards (including indemnity provisions) to protect against any liabilities that may arise if an umbrella company fails to comply with its obligations.

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Should you have any questions relating to the draft "umbrella" tax legislation, issues as they arise or require support in updating or reviewing your practices, please do not hesitate to contact the Tax and Employment teams here at Bristows.

For more information, please contact Farhad Shahidi or Manon Rattle or another member of the Tax and Employment Teams.