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IR35 reforms: TUC demand for government ban on umbrella companies raises eyebrows

The Trades Union Congress has raised eyebrows within the contracting community by calling for a ban on umbrella companies to help stamp out malpractice

The Trades Union Congress (TUC) has come under fire for proposing that the government ban umbrella companies as a means of ensuring that contractors receive the correct pay and benefits for the work they do.

The union body wants the government to ban “without delay” employment agencies and end-user organisations from outsourcing their payroll responsibilities in the wake of reports about umbrella company contractors being denied holiday pay and having unnecessary deductions taken from their pay.

“These scandalous workplace practices have no place in modern Britain,” said TUC general secretary Frances O’Grady. “But our inadequate regulations let dodgy umbrella companies off the hook – allowing them to act with impunity.

“Employers shouldn’t be able to wash their hands of any responsibility by farming out their duties to a long line of intermediaries. Enough is enough. It’s time for ministers to ban umbrella companies – without delay.”

In support of its proposal, the TUC, which represents 5.5 million workers across the UK, has published a 14-page report setting out why employment agencies and end-user organisations should be banned from outsourcing their payroll processing procedures to umbrella companies.

It claims the presence of umbrella companies adds a further unnecessary layer of opaqueness to the working relationship that exists between contractors, employment agencies and their end-clients.

What is an umbrella company?

Umbrella companies are typically tasked with processing the payroll of contractors that are sourced by employment agencies on behalf of end-clients. As such, the responsibilities of umbrella firms include ensuring the correct amount of employment tax and national insurance contributions are deducted from the pay packets of the contractors on their books.

However, reports are rife of non-compliant umbrella companies abusing their role within the extended contractor-to-end-client supply chain by making unnecessary and unlawful deductions from contractors’ pay packets.

This, in turn, has resulted in repeated calls in recent years for umbrella companies to be subjected to statutory regulation to discourage firms from engaging in malpractice and to ensure that timely enforcement action can be taken against those that do.

The TUC report said: “The use of umbrella companies fragments the employment relationship. Workers are not sure who to speak to to resolve problems and can be passed from pillar to post when trying to sort out their issues.”

There is also often a lack of pay transparency for umbrella company contractors, which can lead to individuals unwittingly becoming embroiled in tax avoidance schemes or having unexplained deductions taken from their pay. “Payslips are often indecipherable,” said the TUC report.

The TUC estimates that 600,000 contractors across the UK are working through umbrella companies, and – in the wake of the IR35 tax avoidance reforms coming into force in the private sector in April 2021 – that number continues to grow.

The reason is that many medium-to-large private sector firms have introduced policies that stipulate that they will only hire contractors who provide their services through umbrella companies, because this allows them to side-step the reforms.

This because the contractor is classified as being an employee of the umbrella company, which absolves the private sector hiring organisation from having to assess the tax status of that individual, which is a major component of the IR35 reforms.  

“Government guidance states that the off-payroll working rules [IR35] are unlikely to apply if you are employed by an umbrella company,” said the TUC report.

“Therefore, transferring contractors to umbrella companies will be a convenient way for end-clients to shirk their tax and employment rights obligations.”

Growing pressure on government to regulate

The TUC’s report comes at a time when the government is finding itself under growing pressure from various contracting stakeholders to push through statutory regulation for umbrella companies. 

As alluded to by the TUC, this is on the back of a growing number of anecdotal accounts that have served to highlight links between non-compliant umbrella companies and tax avoidance schemes, as well as reports of these entities making unnecessary deductions from the pay of the contractors they employ.

An MP-led inquiry into the UK’s contracting sector, published in April 2021, also brought to light the prevalence of “pay-to-play”-like arrangements between employment agencies and umbrella companies, whereby the latter pays the former tens of thousands of pounds so they will recommend their services to the contractors they find work for.  

At the same time, the TUC report claimed employment agencies do not pay the umbrella companies they outsource their payroll processing obligations to, which it described as a “red flag”.

“In many cases, the umbrella company will pay a fee, per worker, to the recruitment agencies to carry out the payroll services,” said the report . “This immediately raises a red flag. If the recruitment agency isn’t paying for the outsourced service, it means someone else is. It is clear that this is usually the worker.”

The report went on to claim that umbrella companies are surplus to requirements, because the payroll processing function they provide could be carried out by the agencies themselves or the end-clients to whom contractors provide their services.

“Umbrella companies are not carrying out an essential role in the labour market,” said the report. “The payroll function they perform could be carried out by the agency or end client who engages the worker.

“Because of the wide range of exploitative practices they adopt, which are harmful to workers, the most effective regulatory solution is a ban.”

The TUC’s stance has raised eyebrows among contracting stakeholders, with the general consensus being that an outright ban would be a heavy-handed response given that not all umbrella companies operate in a non-compliant way.

That is the view of Rebecca Seeley Harris, a former senior policy adviser to the Office of Tax Simplification, who recently submitted a draft policy document to HM Treasury and the Department for Business, Energy and Industrial Strategy about how to regulate umbrella companies.

“An immediate outright ban [as proposed by the TUC] would be very complex to implement overnight because of the legislative timetable and the time companies would need to unravel arrangements,” she said. “We also believe there is a place for umbrellas and proof that it is possible to run umbrellas fairly, ethically and profitably.”

Read more about the need for umbrella regulation

Although umbrella companies are not subject to statutory regulation, the Freelancer & Contractor Services Association (FCSA) offers accreditation to compliant umbrella companies that abide by its codes of compliance.

In a statement, released in response to the TUC’s calls for an umbrella ban, the FCSA described the proposal as a “knee-jerk reaction” to a sector that has come to exist through “necessity” because of how “logistically impossible” it is for employment agencies to run their own payroll.

“Recruitment companies are simply not equipped to properly manage and employ such a varying workforce,” said the FCSA. “Hence the existence of umbrella firms. To simply suggest that umbrella firms be banned is not workable and ultimately will disadvantage the freelance worker.

“This sector should not be banned. It and its contractors need robust legislation, meaningful regulation and, most importantly, an investigation and prosecuting body that has knowledge and real teeth. FCSA member companies are compliant, and they welcome a more intense scrutiny and enforcement of the sector. This action is now urgent.”

Crawford Temple, CEO of umbrella company compliance assessment service provider Professional Passport, agreed that a total ban on umbrella companies would be impractical, and the government would be better off stepping up its enforcement efforts against non-compliant players in the market.

“The lack of visible enforcement, the lengthy delays in taking any action, and targeting the workers for recovery all serve the interests of those seeking to circumvent, or disregard, the rules,” he said.

“HMRC holds all the data it needs to stamp out bad practice and it is simply not taking the proactive approach. This is where the real problem lies.”

The TUC report acknowledged that an outright ban on umbrella companies would take time to push through, and in the interim it called for a couple of measures to be introduced to ramp up the protection offered to agency workers.

These measures include getting HM Revenue & Customs (HMRC) to refocus its tax avoidance enforcement activity, so that the operators and promoters of umbrella company-led schemes are targeted, rather than individual contractors. This is something HMRC has already publicly committed to doing.

It also suggests amending the Conduct Regulations, which govern how the working relationship between recruitment agencies and contractors should be operate, to make it easier for contractors to see how much they should be paid to reduce the risk of them falling victim to unnecessary deductions.

Julia Kermode, founder of independent worker consultancy IWORK, said these additional suggestions would go some way to raising standards among umbrella company providers.

“The umbrella industry certainly seems to be broken and in urgent need of repair,” she said. “However, an outright ban is not necessary. Instead, the TUC’s recommended actions should be implemented urgently as an alternative, but not a stepping stone, to a ban.”

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