Umbrella Company Reform: ‘L-Day’ confirms joint and several liability plan

Umbrella Company Reform: ‘L-Day’ confirms joint and several liability plan

New draft legislation aimed at driving tax compliance within the umbrella company industry will make recruitment businesses and in some cases end-clients jointly and severally liable for unpaid Pay As Your Earn (PAYE) income tax under non-compliant umbrella arrangements.

The long-awaited Draft Finance Bill 2025-2026 arrived on Monday, July 21 – dubbed L-Day, bringing clarity to a discussion which began two years ago.

The measures in the Bill, due to be introduced from April 6 next year, make recruitment businesses accountable for PAYE payments to workers supplied through umbrella companies.

It also brings in measures around purported umbrella companies, organisations which claim to operate as an umbrella company but don’t follow strict legal or financial standards.

Why the Bill has been introduced:

HMRC has long struggled with tax avoidance, with a minority of unscrupulous umbrella companies using loans or advances to pay workers, failing to report income accurately, not paying statutory entitlements such as holiday pay, or dissolving after withholding PAYE or national insurance contributions.

In the 2022-2023 tax year, it was estimated that £500 million of tax payments were lost to disguised remuneration schemes, often facilitated by non-compliant umbrella companies.

In 2023, a consultation was carried out on options to reduce non-compliance in the umbrella industry. And in its Autumn Budget 2024, the new Labour administration announced proposals to change who is responsible to account for PAYE if a non-compliant umbrella company is used to engage a worker.

That planning period culminated in the publication of the Draft Finance Bill on L-Day. The government says the measures in the Bill have three main objectives:

• To close the tax gap by providing protection against the losses caused by fraudulent activity in the umbrella industry
• To protect temporary workers from large, unexpected tax bills caused by such activities
• To ensure the temporary labour market operates on a level playing field by preventing fraudulent operators undercutting compliant companies

Joint and several liability introduced as expected:

In mid-June, HMRC confirmed that its policy ‘direction of travel’ was towards a joint and several liability model.

This has now been confirmed in the draft legislation and the changes will be introduced via a new chapter, Chapter 11 in the Income Tax (Earnings and Pensions) Act 2003 (ITEPA).

It means multiple parties in a supply chain can be held liable for unpaid tax, although it will focus primarily on the party closest contractually to the client – in most cases, the recruitment agency.

Depending on the structure of the contract chain, the end client themselves, or a Managed Service Provider, may also find themselves liable for unpaid PAYE.

The aim of the measure is to increase due diligence among those businesses which choose to use umbrella companies to engage workers.

The government has said it is aware that such work could involve one-off costs around training and upskilling, as well as the potential for continuing costs caused by the introduction of regular due diligence checks.

Many industry experts see this as a sensible way to drive compliance while still allowing businesses to engage with reputable umbrella providers.

Purported umbrella companies problem targeted:

New measures have also been introduced to target non-compliance by purported umbrella companies. These businesses may seek to avoid definition as an umbrella company by exploiting loopholes, reducing tax liability unlawfully, and bypassing regulatory checks.

They may do this by misclassifying workers or diverting payments to avoid payroll taxes. 

A new provision within section 61Z1 of the Bill will apply when:

• Companies participate in what looks like umbrella arrangements
• There is a ‘reasonable supposition' the agency or client assumes it is the employer
• The worker isn’t actually employed
• Earnings aren’t properly taxed under PAYE

The implications of this section of the legislation is being dissected by the market, with some observers showing concern that CIS payroll providers may inadvertently be affected.

While we wait for the dust to settle on these debates, HMRC’s legitimate intention is clear – closure of any loopholes that would allow ‘creative’ practices to work around the umbrella reforms.

New legal definitions and wording:

The next step for affected businesses will be to carefully work through the legislation to define exactly what is meant by each clause.

In section 61Y of the Bill, a definition of what an ‘umbrella company arrangement’ is defines umbrella companies as including employment businesses and intermediaries directly engaging workers. 

The Bill also uses the wording ‘relevant party’ to suggest the party contracting with the end client will be primarily liable if there are multiple agencies involved. This is especially important for Manged Service Providers (MSPs), who are at the top of the supply chain and often at arm’s length of the engagement of umbrella companies further down the supply chain.

Unlike other types of tax legislation, this will be a strict liability with no statutory defence. So, if the umbrella fails to pay the requisite PAYE, there is no defence available to the agency (or hirer) made liable under the reforms.

Conclusion:

These changes bring the need for due diligence, and for compliant umbrella companies to be engaged, to the fore. They also provide an opportunity for those operators already following the rules to demonstrate their compliance.

Of course, it needs to be remembered that this remains draft legislation and may be subject to change, but a lot of answers to questions which have been present for the past two years have been provided.

Formal operational guidance will be issued before the measures are introduced, with the aim of further clarifying how compliance will be assessed in practice.

We’ll continue to monitor any changes, guidance or updates that may yet arrive as the reform progresses.