IR35 reforms: Slow government progress on umbrella regulation exposes IT contractors to tax risks

Slow to act on umbrella regulation

So why has the government seemingly been so slow to regulate umbrella companies? Andy Chamberlain, director of policy at the Association of Independent Professionals and the Self-Employed (IPSE), said it could be attributed in part to the government’s inability to appreciate the impact the IR35 reforms would have on the working relationships between contractors and their end-clients.

The onset of the public sector IR35 reforms led to a surge in the number of end-clients introducing hiring policies that banned the use of limited company contractors and favoured individuals who worked through umbrella companies. The same now appears to be happening in the private sector as well.

“The government never really acknowledged that the IR35 [reforms] in the private sector and indeed the public sector would result in more people working via umbrella companies,” said Chamberlain.

“It’s pretty obvious that it was going to result in that… and we were saying to the government [beforehand]: you’ve got to sort out regulation for umbrella companies before you put this legislation through because you’re putting people – in the worst case – at risk of [joining] non-compliant umbrella companies that won’t deduct tax properly. There will be more tax avoidance – not less.”

Contractors and compliant umbrella companies are now dealing with the fall-out from the government’s decision not to heed these warnings, said Chamberlain.

“What we’re seeing now are other problems around holiday pay [being withheld from contractors], arguments over employers’ NI liabilities, so it’s causing a lot of problems,” he added.

The long and winding road to regulation

That is not to say the government has been completely inactive when it comes to regulating umbrella companies, but progress has been slow.

The government-commissioned 2017 “gig economy” review by Matthew Taylor, former interim director of labour market enforcement, made a case for umbrella companies to be regulated more tightly. It also called for their activities to be covered by the Employment Agency Standards (EAS) legislation, which exists to protect the rights of employment agency workers.

In its response to the Taylor Review, the government agreed in December 2018 to expand the remit of the EAS inspectorate to include umbrella companies. “In line with our enhanced approach to enforcement, we will increase state enforcement protections for agency workers where they have pay withheld or unclear deductions made by an umbrella company,” the government stated.

Several years have now passed since the Taylor Review’s recommendations were made public, and despite parliamentary pressure on the government to act on them, umbrella companies remain out of scope of the EAS legislation.

Julia Kermode, founder of independent worker consultancy IWORK.co.uk, said the “lack of visible progress” on extending the remit of EAS to include umbrella firms was concerning, given how relatively simple a change that would be.

“The plan will have required a small amount of primary legislation, so the reason [for the delay] is likely to be a lack of parliamentary time, which will have been dominated by Brexit, and of course we had the pandemic to contend with,” she told Computer Weekly.

That said, simply including umbrella companies in the list of firms covered by the EAS’s remit would not be enough on its own to protect contractors from issues such as unlawful deductions, said Kermode.

“The proposed regulation was never going to be fit for purpose because many of the agency regulations are not applicable to umbrellas, and crucially there was no planned provision for ensuring appropriate tax and NICs treatment,” she said.

“The only good thing about the plan was the simplicity and, for that reason, I had hoped it would be in place before the IR35 reforms are extended to the private sector in April 2021, and therefore giving anyone poorly treated by an umbrella a route for redress.”

Now that opportunity has been missed, the government “needs to go back to the drawing board” and create bespoke regulation to specifically target umbrella firms that demonstrate “poor practice”, said Kermode.

“It would be remiss to proceed with the original plan [of extending EAS], which is not fit for purpose, particularly as the only benefit of its simplicity has now passed,” she added.

The Department for Business, Energy and Industrial Strategy (BEIS) ran a three-month consultation in 2019 about its plans to create a single labour market enforcement body that would oversee the regulation of umbrella companies.

The outcome of that consultation is yet to be made public, and a BEIS spokesperson confirmed to Computer Weekly that the results from that exercise are still being analysed.

Acting on the outcome of that consultation is likely to be the responsibility of whoever is recruited to fill the director of labour market enforcement vacancy at BEIS since Taylor’s departure in January 2021. 

BEIS is known to be sourcing a replacement for him, but while that position remains unfilled, there will be no director-level push to drive the umbrella regulation agenda, said Kermode.

“We can only hope that once an appointment is made, there will finally be some visible progress,” she said. “We continue to hear about poor practices within the umbrella sector, so it is in everyone’s best interests to act on the decision to regulate the sector, and certainly the many compliant businesses in the umbrella sector will be only too pleased to support measures to raise standards.”

Umbrella regulation still ‘two years away’

As alluded to in Kermode’s comments, rolling out legislative changes does take time, but there are several complicating factors that mean regulation is still at least two years away from becoming a reality, said Crawford Temple, CEO of Professional Passport, which provides compliance assessment services to umbrella companies.

“Calls to regulate the umbrella sector are easy to do, but harder to achieve,” he said. “Firstly, umbrella companies are not defined in law and so to regulate them would require a definition. Applying a definition would then lend itself to attempts by some firms to change their operation and structure so that they fall outside. 

“The other issue with regulation is the time and cost to set it up. Powers would need to be given to a regulatory body, the scope of the regulations defined and an appointed day set for their application. 

“This would likely take a minimum of two years before coming into effect, during which time many workers could be taken advantage of by unscrupulous companies seeking to maximise and exploit those workers before dropping out of the market.”

Computer Weekly contacted BEIS to query the time it has taken to date to regulate umbrella companies, and was told the government remains committed to protecting workers’ rights. 

“Protecting and enhancing workers’ rights through robust regulation – including for those employed by umbrella companies – is a top priority for this government,” a spokesperson said.

As proof of this, the spokesperson pointed to the commitment the department has made to creating a single enforcement body to “further protect vulnerable workers” and the work it has already done to “improve the information provided to new agency workers about their contractual terms and pay rates”.

This refers to the introduction of a legal requirement in April 2020 that made it mandatory for employment agencies to provide contractors with a key information document that sets out how much they will be paid for the work they do, including details of any deductions that will be made.

Self-regulation to demonstrate compliance

Although the sector is not subject to statutory regulation, umbrella companies do have the option to participate in accreditation schemes to demonstrate their commitment to operating compliantly. Examples of such schemes include another one offered by Professional Passport, and another by the Freelancer and Contractor Services Association (FCSA).

Both schemes are designed to provide both end-clients and contractors with accredited assurances that the umbrella companies they work with are operating compliantly, but participation is voluntary and relatively few firms are enrolled in them.

The Low Incomes Tax Reform Group’s March 2021 Labour market intermediaries report suggests there are 600,000 people employed via 500 umbrella companies in the UK, and about 140 of these firms are enrolled in either the Professional Passport or FCSA accreditation schemes.

Both schemes can expel umbrella companies that fall short of their codes of conduct and compliance, but they have no power to stop “bad actors” from continuing to trade, said Thomas Wallace, director of tax investigations at London-based tax advisory firm WTT.

“The market is now too big, and impacts too many people, to remain unregulated with no government-approved standards or sanctions for being non-compliant,” he said. “Most compliant umbrellas would welcome regulation and have nothing to fear from it.”

The fact that the umbrella market is not subject to statutory regulation is likely to be news to the ears of newcomers to the world of umbrella working, said Wallace.

“Indeed, it has been assumed [by many] that membership of a trade body is the equivalent of regulation,” he added. “Until such regulation, together with appropriate standards, is implemented, then all umbrellas should do their utmost to ensure transparency and set the highest standards for themselves.”

Industry accreditation is one way of achieving this, but some umbrella companies are taking matters into their own hands when it comes to demonstrating to end-clients and contractors how committed they are to operating compliantly.

For example, umbrella company Orca Pay Group has rolled out a series of initiatives this year to assure existing and prospective contractors of its commitment to operating compliantly, and ensuring that they receive the correct pay and benefits for any work they do.

These initiatives have included the deployment of a real-time compliance platform called The Apex, which provides employment agencies and end-clients with an audit trail for every payroll process they complete.

The platform provides agencies and end-clients with time-stamped records from HMRC that can be used to confirm every contractor on their books has been paid correctly and taxed in accordance with the IR35 rules.

The company also went public with a commitment this month to have all its payroll activities audited by WTT on a monthly basis to assure its contractors that they will be paid exactly what they are legally entitled to.

Rob Sharp, founder and CEO of Orca Pay Group, told Computer Weekly that in the absence of statutory regulation, the onus has to be on the umbrella market’s reputable players to set the standards for how the industry should operate.

“Let’s be honest, self-regulation has not and is not working, and we believe so much more should be done as an industry to improve this,” he said. “That’s a responsibility that we must undertake individually, which in turn will benefit the collective umbrella industry.”

IPSE’s Chamberlain said there are definitely opportunities across the industry for compliant umbrellas and parties such as the FCSA to work together to produce guidance and demonstrate best practice to contractors who are newcomers to working through umbrella companies.

“What we have as a result of the IR35 changes is a whole new population of people who are now going to find themselves, whether they like it or not – and in many cases they don’t like it all that much – working via an umbrella company because they are forced to do that or it’s a case of not getting any work,” he said.

“What we need is everyone to pull together in the same direction to make sure that we have clear examples of what best practice looks like, so that the industry can begin to improve itself in the absence of any kind of strict regulation from the government. We need tighter guidelines and guidance on what is best practice from umbrella companies.

“Our hope is that we’re going to work with the FCSA and hopefully others to produce something so that we can give as much information as we can to contractors and, at the same time, create something that compliant umbrella companies can sign up to, which should give an indication to those that might use their services that they are going to do the right thing as much as possible.”