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Umbrella Company Compliance

Umbrella companies are relatively unregulated and the barriers to entry low. From a tax perspective, HM Revenue & Customs (HMRC) has highlighted concerns over the degree of non-compliance with tax legislation by ‘umbrellas’. Indeed, their successful claim against Reed Employment for operating a non-compliant travel and subsistence scheme highlights HMRC’s appetite for taking legal action if necessary in order to recover under-payments of tax.

Compliance Audit

Detailed below are some of the points that our auditors look closely at.

It’s relatively easy to set up an umbrella without a significant capital outlay or without proper professional advice. The auditors recommend you understand who you are doing business with, who the owners and directors are and what experience and qualifications they have. As part of the audit, these checks will be covered.

The auditors check the umbrella’s credit worthiness and its financial reserves, they also assess the risk of any financial claims such as those from HMRC or employees, that could have a material impact on the umbrella’s financial position. The auditors recommendation that net assets should be maintained at a level in excess of 2.5% of gross profit. The auditors take into consideration any contingent liabilities that may be disclosed in the accounts.

If the umbrella’s business model and documentation are such that a fee is charged to employees for processing their pay and expenses, the auditors question whether the umbrella is accounting for VAT on these fees. If they are not, then HMRC is likely to challenge the position.

The attractiveness for employees and the umbrella in operating an umbrella model is in maximising tax and National Insurance contribution (NIC) savings by reimbursing allowable expenses. For the expenses to be allowable there must be an overarching contract of employment which encompasses all assignments that the employee performs for the umbrella, rather than a separate employment contract for each assignment. HMRC will test this, and if there is no overarching contract of employment, expenses will be disallowed and tax and NIC liabilities will arise.

There are some business models operated in the market place, including those involving offshore structures, which seem almost too good to be true. You should be aware that some of these schemes may not be compliant and could be subject to HMRC challenge. In fact, HMRC has issued public statements in relation to certain models which in their view do not work, such as the “pay day by pay day” model which seeks to provide tax and NIC relief on expenses paid to employees whose pay is at national minimum wage levels.

Taking time to understand how the umbrella business is structured is important in minimising or understanding any exposure to a potential transfer of PAYE and NIC debts from the umbrella to your business or your client. It is quite often assumed that because the umbrella operates PAYE and NIC on workers’ pay, the managed service company (MSC) legislation is not in point. Whilst the MSC legislation tends to be more of a concern for agencies dealing with limited company providers, there is also a risk that the MSC legislation and its transfer of debt provisions may arise when dealing with umbrella companies (depending on how they are structured) if, for example, HMRC should perceive abuse in relation to expenses payments.

We have seen that where a pay between assignment contract is in place, there are particular areas where differing approaches are being taken and where you should consider the implications for your business; in particular, the rate at which basic pay between assignments is calculated and how it is funded. There is also a tendency to assume that workers engaged via limited companies or on a self-employed basis fall outside of the regulations. The auditors recommend that agencies undertake appropriate due diligence to ensure that any such assumptions are appropriate: for example, that self-employed workers are genuinely self-employed, as in the event of a claim under the regulations, the Tribunal will look closely at all of the parties involved in the contractual chain to determine who is responsible for any breach and, ultimately, payment of compensation.

The auditors recommend that you understand the basis on which the umbrella pays holiday pay to the worker. Many pay rolled up holiday pay, whilst others accrue funds to pay for holidays when they are taken. The key to mitigating potential claims from employees for unpaid holidays is in ensuring that employee communications and contractual terms are explicit and properly implemented.

The auditors question whether the umbrella has appropriate and adequate insurance cover to protect their employees. For example, as an employer, the umbrella must have employer’s liability insurance in place for all workers. The auditors recommend that you request sight of insurance policies and review for any exclusions that the policy might include.