'Deemed employer' must hinge on umbrella companies' PAYE references

While we’re still awaiting final confirmation from government on the umbrella company consultation’s “next steps,” we have little doubt that the government will push ahead with “Option 3,” which makes the employment business the “employer for tax purposes,” writes Ciaran Woodcock, a director at SG Umbrella.  

While HMRC has yet to announce how this “deemed employer” proposal will be enforced from a payroll perspective (whether via the recruitment agency PAYE reference or the umbrella’s PAYE reference), I want to explore how the use of the agency PAYE reference will adversely impact the temporary labour market.

‘Deemed employer’ from a contractor's point of view…

For many contractors, being paid by an umbrella company offers the simplest way to receive their pay.

By utilising the same umbrella company throughout multiple, even concurrent, assignments, contract workers can ensure they receive the same benefits as full-time employees, including continuity of employment; a consistent pension provider, and access to various employee benefit platforms.

However, by making the recruitment agency responsible for PAYE, those on short-term contracts will no longer have the benefit of continuity of employment.

Loss, cost, and complexity

And the loss of that benefit could make it more difficult to obtain loans and even mortgages.

Contractors operating concurrent assignments will likely find they are being taxed incorrectly, which can only be corrected via self-assessment with HMRC-- often at the contractor's expense.

Additionally, contractors who take on a variety of contract roles throughout their working life will find themselves enrolled in multiple pension schemes, creating a complex administrative headache for keeping track of their pensions.

How ‘deemed employer’ threatens umbrella companies

By the deemed employer proposal fundamentally changing the core role and benefits of using an umbrella company, umbrella companies will struggle to find their place in the temporary labour market.

While a variety of options, including joint employment, are being mooted, these models come with significant legal complexities and have already been opposed by previous governments.

Umbrella companies will need to swiftly pivot away from their current operational models and rely on their payroll software to adapt to these changes in almost record time.

A future of umbrella company closures, or mergers?

Umbrella companies may find themselves operating as little more than payroll bureaus, entering a market where economies of scale will make it difficult for them to compete.

Concerningly, reducing umbrellas to merely payroll bureaus is likely to lead to many compliant umbrella companies being forced to close, or merge.

Deemed employer and recruitment agencies: my impact assessment

With recruitment agencies becoming the “employer for tax purposes,” the government will inadvertently muddy the waters of compliance.

Agencies that want to remain compliant will face greatly increased overheads, as rather than rely on the knowledge and experience of their preferred umbrella partners for support with running a compliant payroll, they will have to rely on themselves.

The consequence? Smaller agencies lacking the capacity and knowledge may find themselves at risk of non-compliance.

A barrier to entry for the UK’s new job facilitators

At a time when the government recognises the significantly positive impact that the contingent workforce has on the UK economy — and therefore on the recruitment agencies that work in this space — this policy creates another barrier to entry for new agencies.

My fear is that some would-be employment businesses will find the added overheads to be an insurmountable cost.

Recruitment agency credit crunch

Many smaller (and some larger) recruitment agencies rely on credit provided by umbrella companies to pay their workers in a timely manner.

With end-clients demanding invoice periods of up to 90 days, credit from umbrella companies allows smaller or low-margin agencies to operate in a competitive market.

This credit is often sustained by cash flow from retained taxes -- something that would be removed under Option 3.

How deemed employer will affect contractors’ end-clients

By shifting liability to employment business (recruitment agencies), the government isn’t removing the risk of non-compliance but rather increasing it.

Instead of auditing and ensuring compliance from around 600 umbrella companies, end-clients will now be expected to audit and ensure compliance from one of approximately 40,000 recruitment agencies.

While legislation is being promised to contractors to gain better control over the non-compliance of umbrella companies, it fails to recognise that most non-compliance stems from fraudsters and criminal organisations masquerading as umbrella companies.

By making the recruitment agency the employer for tax purposes, it is conceivable that these criminals will disguise themselves as employment businesses.

Instead of eliminating the problem of non-compliance, the government will simply shift it further up the chain.

So what’s deemed employer’s alternative?

Like many, I do not foresee the government delaying the move to “Option 3.”

However, many of the issues highlighted above could be addressed with a simple implementation change.

By using the umbrella company’s PAYE reference, rather than that of the recruitment agency, HMRC can minimise the inadvertent impact these changes will have on the market while also ensuring a dramatic increase in compliance.

Why using the umbrella’s PAYE reference number is key

Under this approach, umbrella company software changes would be minimal, and contractors would retain the benefits of continuity of employment.

The impact on agencies would also be limited.

While employment businesses would remain the employer for tax purposes and liable to HMRC for unpaid taxes, this liability has always existed and is mitigated by operating only with umbrella companies that can demonstrate compliance, such as being members of the FCSA or Professional Passport, or by using a solution like SafeRec. N.B. The latter not only completes due diligence audits but also utilises real-time auditing to audit each payslip.

In short, destabilisation will ensue if deemed employer doesn’t centre on umbrella PAYE reference

Rather than destabilising a key market of the UK economy, using the umbrella’s PAYE reference -- and not the agency’s -- would bolster compliance in the contracting sector, increase transparency, and reward compliant umbrella companies while removing the non-compliant element.