‘Freelancers forced into tax avoidance by umbrella companies’

Controversial tax changes brought in this year “forced” workers unwittingly into tax avoidance schemes through employment arrangements, known as umbrella companies, experts have warned.

Umbrella companies typically collect a freelancer’s earnings from their hiring firm or recruitment agency and then pay it to the worker after deducting tax and national insurance.

While many such businesses are legitimate, the industry has attracted increased scrutiny over concerns some firms are exploiting workers and trapping them into tax avoidance.

Speaking at the House of Lords economics affairs committee this week, Phil Pluck, chief executive of the Freelancer and Contractor Services Association, which accredits compliant umbrella companies, said changes to the off-payroll working rules, known as IR35, had caused a spike in tax avoidance.

“IR35 [reforms] have forced a lot of people into umbrella employment and therefore they’re not necessarily as educated [about the market] as they could or should be,” he said. “We’ve seen very clear evidence it’s driven up tax avoidance.”

The problems have been exacerbated by an increase in workers joining umbrella firms since April when HM Revenue & Customs cracked down on tax avoidance in the private sector by people it labelled “disguised employees”.

These are contractors who work like regular employees but, because they use a limited company, can gain an advantage by paying corporate rather than employment taxes.

Hundreds of thousands of workers have been hit by the reforms, ranging from cleaners and HGV drivers to well-paid IT consultants.

Pluck’s comments come on the back of a survey published this week which revealed a sharp rise in freelancers saying they have no choice but to work via umbrella firms. It also follows the release of a call for evidence by government departments on the umbrella sector last week, which warned of “significant” tax non-compliance in the industry.

A survey of 1,250 contractors, conducted by Qdos, a tax consultancy, found roughly a third of contractors had worked via an umbrella company this year.

The vast majority — 94 per cent of the contractors surveyed — said they worked via umbrella companies not out of choice, but because it had been a requirement of their recruitment agency and or client to take the job.

“IR35 reform has left thousands of contractors with no option but to work via umbrella companies or have their contract cancelled by their client,” said Seb Maley, chief executive of Qdos.

Since April large and medium-sized businesses have been required to assess the tax status of every contractor they hire. Hiring firms and any other companies involved in the contractor labour supply chain, are liable for any unpaid tax if a contractor is wrongly classified.

Rebecca Seeley Harris, an IR35 expert and chair of the Employment Status Forum, which has campaigned for greater regulation of the umbrella industry, said hirers were turning to umbrella firms because they did not want the risk of making IR35 mistakes when hiring contractors. Instead, they were outsourcing the costs and responsibilities of employing workers, found to be inside IR35, to umbrellas.

“It’s much easier to push them on to an umbrella company,” she said. “It’s definitely got worse since the IR35 changes. Most workers are being put in umbrella companies. I don’t blame the clients. They are scared.”

In its call for evidence, the government acknowledged it was “aware of the scope for unscrupulous individuals and organisations to use umbrella companies to facilitate tax non-compliance”.

A key area of tax non-compliance was the continued prevalence of so-called disguised remuneration schemes — tax avoidance arrangements which seek to avoid paying national insurance and income tax by paying workers in purportedly non-taxable loans.

HMRC has cracked down on such schemes in recent years. But documents released alongside the call for evidence revealed that HMRC estimates there are still up to 80 non-compliant umbrella companies, out of about 500, involved in the operation of disguised remuneration avoidance schemes.

Since the roll out of the off-payroll legislation, we have witnessed a significant rise in the proliferation of disguised remuneration schemes

Pluck, the contractors’ association chief executive, told the Lords committee that avoidance was being pushed by non-compliant firms in the industry, unlike umbrella companies operating in the right way which were “net good”.

He added: “We have a series of highly compliant, ethical umbrella companies that operate in a sector that is unregulated and has not been properly policed for decades now. And that has produced an increasing level of non-compliance and unlawful behaviour.”

Dave Chaplin, chief executive of IR35 Shield, a specialist software company, says: “Since the roll out of the off-payroll legislation, we have witnessed a significant rise in the proliferation of disguised remuneration schemes that have duped contractors into signing up for them.”

In June, the government announced it would set up a new watchdog to protect the rights of UK workers, including those who had signed up to umbrella companies. HMRC has also launched publicity campaigns to help individuals navigate umbrella companies and steer clear of tax avoidance schemes, including writing to those potentially affected to warn them of the dangers.

Meredith McCammond, technical officer at the Low Incomes Tax Reform Group (LITRG), an educational tax charity, said research by her group had found a range of disguised remuneration schemes operated by rogue umbrella companies. She says: “Our research has shown there has been a significant shift. Now, while there are still [providers facilitating] personal avoidance, a lot of the stuff that goes on is to make the umbrella money.”

She warns umbrella workers to be on their guard, check their payslip carefully and cross-reference what amount of net pay they have received in their bank account with what the umbrella reports to HMRC.

Tax experts contacted by FT Money welcomed the government’s call for evidence on the umbrella sector. Crawford Temple, chief executive of Professional Passport, an umbrella company compliance checker, says it seems a “genuine attempt to try to understand the challenges that the industry is facing”.

The government said: “We want to support a dynamic and flexible labour market but it’s important that new models of working do not lead to workers being deprived of employment rights or companies or individuals not paying the right amount of tax.

“We’ve issued our call for evidence to ensure we have a detailed and up-to-date understanding of the sector and how it is continuing to evolve.”