This article has been published on Taxation.
There has been considerable controversy in recent years concerning labour structures which seek to exploit perceived tax efficiencies and to mitigate the costs of engaging temporary labour. With the upcoming increases in employer National Insurance these pressures continue to increase. In recent years, HMRC has invested heavily in compliance activities, while the government has announced that further legislation targeting non-compliant umbrella companies will be introduced from April 2026.
A Typical Labour Supply Chain.
A typical labour supply chain might look like as follows:
The end client or hirer.
Recruitment agency – responsible for sourcing labour and providing a service of temporary labour to the end client.
Umbrella company – acts as the engager and payer of the worker.
The worker (temp) – provides the service to the end client.
In practice, labour supply chains can often be substantially more complex – for instance the end client may appoint a ‘neutral vendor’ to manage their relationships with recruitment agencies and the ‘tier one’ agency may work with other agencies to find labour. The umbrella company itself may outsource the operation of payroll to another party.
The temps themselves may be employees of the umbrella company (contracts of service), or they may be engaged under contracts for services. In the latter case, the operation of the agency workers legislation in ITEPA 2003, Part 2 Chapter 7 is such that these individuals are brought into the PAYE system, provided that the individuals are subject to supervision, direction or control (or to the right thereof) as to the manner in which they provide their services even though they are not formally employed by any party.
Agencies often have terms with the end client which means that services are provided under a ‘cost plus’ model, which in theory means that employment costs are directly passed through to the client. However, agreements often in practice calculate costs on an estimated basis. This, combined with significant competitive pressures, creates a powerful incentive for agencies to seek to increase margins through reducing employment and other costs.
Origins of the Current Position
It has been an aim of the government and HMRC over many years to impose more responsibility on end users and
agencies for the compliance of their labour supply chains. Following the introduction of the intermediaries legislation (almost inevitably referred to as ‘IR35’) in 2000, a succession of structures have been used to drive tax efficiency for the engagement of temporary labour. It is beyond the scope of this article to give a detailed timeline, but it is important to understand the reasons for the current focus on this area.
A common form of planning was the payment of travel and subsistence costs to workers, in conjunction with a salary sacrifice arrangement. An individual engaged under an assignment-by-assignment basis was not able to claim tax relief for travel expenses but if each assignment was part of an ‘overarching contract of employment’ then the individual could be considered to be visiting a succession of temporary workplaces.
From 2016, legislation was inserted into ITEPA at s 289A to remove the prior system of P11D dispensations, and replace it with a new statutory exemption for paid expenses. At the same time, the legislation disallowed the exemption in cases where the expenses were paid in conjunction with a salary sacrifice arrangement (very broadly defined). As a result, many agencies who had benefited from employer NIC savings were faced with a shortfall.
Key Points
Businesses using temporary labour need to understand the supply chain being used.
All parties in the supply chain need to undertake due diligence but this is particularly important for
recruitment agencies.HMRC’s GfC12 provides a framework on which to base a due diligence approach.
Expected future legislation may cause agencies to consider whether they should cease outsourcing
labour.