By not taking HMRC powers seriously, any recruitment agency with an offshore umbrella company on its PSL is leaving itself wide open

Through our work in the contingent labour market, we’re frequently instructed to conduct supply chain audits, writes Rhys Thomas, managing director of WTT Group, which includes WTT Legal.

On the surface, you might think that this frequency demonstrates a growing awareness of tax risks and liabilities but, on the contrary, contractor recruitment agencies continue to be largely unaware of the powers that HMRC have to recover from them directly, where an avoidance arrangement is on their Preferred Supplier List (PSL).

Typically, the request for us to conduct a supply chain audit comes from end-hirers, who are focusing on ensuring that their suppliers have adequate compliance procedures.

Agency acquirers are alert to legacy tax risk

Increasingly, however, potential acquirers of agencies are seeking due diligence at a deep level, to better understand the potential for legacy tax risk. And as mentioned at the start, the most exposed area we tend to see here is the acceptance of offshore umbrella companies onto a recruitment agency’s PSL.

With last week’s Autumn Statement 2023 clearly showing that the government needs every penny it can muster up from non-compliance, now more than ever, agencies must implement effective mitigation processes if they want to protect their workers, while safeguarding the value of their own business and brand.

By employing these mitigation processes, agencies can avoid creating substantial contingent liabilities at the same time as winning new business.

What are the steps required to implement a suitable compliance framework?

There isn’t space here to explore the full breadth of commercial decisions required in this process, but as a starting point, HMRC has recently updated a guidance document first published in October 2021, covering this topic.

Made this month, the update was minor, but the substance of the original note is surprisingly unknown among the agency community. Despite this, it remains relevant to agencies operating in the temporary labour space today.

The HMRC guidance contains the following extract, which is aimed squarely at agencies:

“You are responsible for operating PAYE on payments made to an offshore umbrella company worker, due to the offshore employment intermediaries rules, if you are a UK based:

• agency placing a worker with a hirer
• hirer and there is no UK-based agency in the supply chain

This means you may be liable to pay any unpaid Income Tax and National Insurance contributions resulting from the use of a tax avoidance scheme involving an offshore umbrella company.

You are responsible for any unpaid Income Tax and National Insurance contributions even if you are not aware that there is an offshore umbrella company in the supply chain.”

The taxman couldn’t really be any clearer

Immediately, therefore, we can start to see where the risk exists. Agencies, put simply; if an offshore umbrella exists on your PSL, it is determined that you are potentially liable for any leakage of tax.

This is perhaps best characterised in a very simplified, worked example.

Under normal rules, HMRC can seek recovery of unpaid tax for up to 20 years where deliberate actions have led to a loss of tax. However, let’s assume (for the purposes of this article), that they are recovering within just a four-year window.

Well, if an agency has 10 temporary workers being supplied to the end-client, who are employed via an offshore avoidance umbrella, each earning the equivalent day rate of £50,000 a year (which is very likely nowadays), then the potential leakage of tax is huge, as the table below shows.

If we then contrast this against the ‘referral fee’ that is generated from having the arrangements on the PSL, assumed below at 15% of gross pay, we get the following:

Here then, the agency is at risk of £289,000 + interest and penalties (plus Employer’s NI) based on just 10 contractors. As we start to increase these figures to 20, 50 or 100 contractors, the sums begin to threaten the company itself.

How can agencies protect from these potentially significant HMRC liabilities?

The short answer is to not engage with umbrella companies that have an element of offshore activity. Also don’t engage with any brolly (offshore or not) that pays contractors in loans, grants, annuities, advances or any other form of remuneration mentioned on HMRC’s guidance note.

Unfortunately, it’s not always that easy. Indeed, HMRC’s own guidance warns:

“Be mindful that some offshore umbrella companies take steps to disguise the fact that they are operating offshore by using a UK-based company to contract with agencies”.

Contractor recruitment agencies can take 8 steps for HMRC-safety, 11 for proper peace of mind

HMRC also outlines an eight-step process that the tax authority believes will help contractors’ recruitment agencies mitigate non-compliant umbrellas entering the supply chain. I’ve reproduced the eight steps below:

1. Perform due diligence on your whole supply chain.
2. Find out what you need to do when you engage a worker.
3. Consider adding anti-tax avoidance clauses and indemnities to your contracts with umbrellas.
4. Check payslips to make sure PAYE is being operated on the full amount received by the worker.
5. Be extremely cautious about working with umbrella companies that are offshore or offer financial incentives.
6. Check HMRC’s list of named tax avoidance schemes, promoters, enablers and suppliers (N.B. This sixth point – check HMRC’s avoidance blacklist – was the minor update which HMRC recently made, but although small it’s nonetheless an important action to carry out)  
7. Check the umbrella companies’ details and returns filed with Companies House to make sure details such as its financial position, location and trading history are consistent with what you have been told.
8. Educate your workers by sharing information with them about tax avoidance schemes.

We believe three additions to the Revenue’s eight-strong process can be made.

In fact, we’d recommend agencies should also consider:

9. Verify the umbrella companies’ VAT registration exists.
10. Check that the umbrellas’ bank beneficiary details align with the umbrella being paid.
11. Conduct ‘enhanced checks’ on umbrellas’ with little or no trading history.

To reiterate, the length of this article doesn’t permit a full exploration of each requirement.

But point 4 (‘Check payslips…’) warrants some further extrapolation, below, because it gets to the heart of how you can establish transparency in the supply chain.

Checking payslips…

We often see agencies confirming that they check a portion of payslips from the umbrella companies on their PSL and ASL.

For the avoidance of doubt, let me just state here unequivocally -- a portion will never be enough. It is established practice for what we deem ‘avoidance umbrellas’ to operate two products, one with compliant payroll and the other with an ‘enhanced offering’ – and this latter offering pays in loans or some other form of credit, claimed to be non-taxable.

It is therefore increasingly essential that agencies conduct continuous checks on all payslips (not an abridged sample) for their temporary workers, which will show how much has been paid; how much has been taxed, what the umbrella company paid them, and whether that company was based in the UK.

Agencies (and contractors) should further be aware that where their employment business utilises umbrellas under a certification programme with SafeRec, all of the four checks above, in addition to seeing that the tax was remitted to HMRC every month in the manner it should have been, is assured by that certification.

Our belief is that by doing this on an ongoing basis, agencies can ensure there is no leakage of tax – and that’s something that existing and prospective clients, as well as potential acquirers, will put enormous stock into when considering who to partner up with.

Final thoughts

Contractor recruitment agencies must now do what they can to protect their supply chain and themselves. HMRC is alert to their options for recovery from agencies and potential acquirers will be aware of this too.

There are a number of good quality, experienced, advisers in this space that can help you implement the steps above, but equally, the tools are available for you to do this yourself; as an employment business. It is now time to implement these steps into your BAU processes to secure your business’ financial and commercial future.