Umbrella company usage expected to soar following Off-Payroll private sector roll-out

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Top view of eight hands assembling a colourful umbrella with cards over textured rustic desk. Conceptual of umbrella company usage increase

Umbrella company usage is expected to increase dramatically following the implementation of IR35 reforms into the private sector in April 2020, a new survey of recruitment agencies has revealed.

Ninety-one percent of the professional recruitment firms polled indicated that they believe that an increasing number of contractors will switch from invoicing from contractor-owned limited companies, also known as Personal Service Companies (PSCs), to using umbrella companies, which avoid IR35 altogether by employing contractors and hiring them out to agencies and end-clients.

But the recruitment trade body that carried out the research, the Association of Professional Staffing Companies (APSCo), warned that non-compliance remains a risk for firms engaging contractors via umbrellas, with their members reporting “an increase in unscrupulous umbrella companies” following the implementation of the IR35 reforms, officially known as the Off-Payroll rules, into the public sector as contractors sought to offset the shortfall in income caused by moving from self-employed taxation to PAYE – in some cases due to public sector bodies operating a “blanket” approach to IR35 assessment that left every contractor taxed as an employee, regardless of their true employment status.

The recruitment businesses polled were also asked if they expect the majority of their contractors to agree to working “inside IR35” after Off-Payroll kicks in next April, with two thirds (sixty-seven percent) responding “no”.

The Off-Payroll rules will shift the responsibility of IR35 status assessment to contractors’ end-clients, whilst responsibility for deducting PAYE income tax and National Insurance in the case of IR35-caught contractors will sit with the “fee-payer”, which in most cases will be the contractor’s recruitment agency. Agencies have historically resisted the burden of PAYE deductions for their contractors by forcing them to work via an arms-length limited company – this may change after Off-Payroll comes into effect by agencies instead insisting their contractors work via an umbrella to avoid the agency becoming responsible for their contractors’ taxation.

Considerable concern has been expressed within the contract sector that private sector clients may attempt to shirk their IR35 assessment responsibilities and simply avoid any IR35 risk by classifying all of their contractors as “inside IR35”, or apply the same decisions to all contractors on equivalent terms and conditions rather than making assessments on a case-by-case basis: the so-called “blanket assessment” approach. HMRC have repeatedly confirmed that blanket assessments would be non-compliant with the new rules, however, and draft legislation published two weeks ago outlines a client-led status dispute process that will allow contractors to challenge their clients’ decisions.

Contractors determined to be employed for tax purposes by their clients under the new rules will likely be attracted to the umbrella company option, reducing their administrative overheads and the costs associated with running a limited company as the tax advantages of working through a PSC are negated. Similarly, clients will be attracted to umbrella company contractors, who are not exposed to IR35 because they are employed for tax purposes, eliminating the need for complex IR35 status assessments at the client and PAYE deductions at the agency.

Research published earlier in the week by APSCo exposed concern within the recruitment industry that private sector businesses are not sufficiently prepared for Off-Payroll, with only thirty-nine percent of firms surveyed believing that the majority of their clients are aware of the new rules, and only ten percent believing that their clients were expecting to pay more for contractors once Off-Payroll takes effect. Research conducted after the implementation of Off-Payroll in the public sector in 2017 found that fifty-five percent of recruiters had witnessed a drop in the use of PSCs, in parallel with a corresponding increase in umbrella company use.

Samantha Hurley, APSCo operations director and co-chair of HMRC’s IR35 forum, commented on the findings:

“It is unsurprising that our membership expects an increase in umbrella company usage: it is reasonable to expect that employers which engage contractors directly are likely to be seeking ways to mitigate risk. Contingent workers, meanwhile, look set to increasingly move away from PSC solutions if their assignments are caught by the new rules.

“However, while the majority of service providers are compliant and ethical, there are exceptions to the rule. Following changes to IR35 in the public sector our members reported an increase in unscrupulous umbrella companies which were very willing to exploit contractors’ wishes to make up some of the shortfall in income because they were being taxed as employees. We essentially saw non-compliance in the umbrella sector replace non-compliance in the form of false self-employment.

“It is vital that anyone seeking to engage an umbrella company ensures that they are able to differentiate between ethical providers and those which sell non-compliant solutions. All APSCo affiliate umbrella companies, for example, commit to a strict code of conduct and undergo a rigorous application process. They are also required to undertake an independent annual compliance audit which is carried out by one of four equally robust providers: Saffery Champness; EY; Professional Passport or the FCSA.”

26th July 2019.