Reforms to the umbrella market bring joint and several liability for the supply chain, but at what cost?
On 21 July 2025, the Government published the long-awaited draft legislation to tackle non-compliance in the umbrella market, amending Part 2 of the Income Tax (Earnings and Pensions) Act 2003 (ITEPA).
In what can now be considered a pyrrhic victory for commentators calling for joint and several liability (JSL), the new Chapter 11 is anticipated to have toxifying and far-reaching consequences for the umbrella industry once it enters force on 6 April 2026, leaving the recruitment industry and clients 8 months to get legal advice on alternative arrangements for processing payroll.
The new Chapter 11 has given rise to a heady deluge of copium, including accreditation of umbrellas and misguided analyses of the legal implications. However, as will be explored below, JSL cuts through and clarifies the obligation to pay tax. From 6 April 2026, HM Revenue and Customs (HMRC) will be empowered by the new paragraph 5A of regulation 80 of the Income Tax (Pay As You Earn) Regulations 2003 to issue a notice of determination to a jointly and severally liable relevant party, i.e., the umbrella, employment business and client (or umbrella and client in direct arrangements).
The draft legislation enables HMRC to recover tax from relevant parties, i.e., umbrella companies, employment businesses, and clients, without relying (in the first instance) on existing legislation that targets workers, which can sometimes have tragic consequences (regulation 72 of the Income Tax (Pay As You Earn) Regulations 2003). Chapter 11 (section 61Y(2)) renders the umbrella, “upper-recruiter” (an employment business), and the client jointly and severally liable for tax where the payment is made for a worker’s services to the client. If there is no employment business in the supply chain, the relevant parties will be the umbrella and the client.
Ostensibly, the policy has three objectives:
1. To protect taxpayers and the Exchequer from fraud.
2. To enable HMRC to recover an underpayment of tax from relevant parties instead of a worker.
3. To promote a level playing field.
The Government has run out of patience with umbrella companies, and clearly wishes to use this legislation to permanently change behaviour – a common use for tax legislation (e.g., duties on alcohol). Apart from tax avoidance, there are numerous examples of breaches of the Employment Rights Act 1996 by umbrella companies acting as notional employers. In Stoica v S&S Consulting Services Ltd, Case Number: 2223320/2024, the umbrella company was found liable for unlawful deductions from wages. The Law Place Limited has successfully represented many umbrella workers in disputes with umbrella companies involving unlawful deductions from pay.
What is meant by joint and several liability?
In Umbrella companies — tackling non-compliance in the umbrella company market (21/7/25), JSL will allow “HMRC to pursue an agency in the first instance for any payroll taxes that a non-compliant umbrella company fails to remit to HMRC on their behalf. The end client will be liable if contracting directly with an umbrella company.” However, it is necessary to consider the legal background to JSL and its toxic effect on established relationships between umbrella companies, employment businesses and clients.
Joint and several liability is a fundamental principle ingrained in common law. It arises where two or more promisees under the same contract make an enforceable promise to a promisee who can choose from whom to recover damages for breach of contract – all promisors or the promisee with the best ability to pay. In the case of Chapter 11, the client will be the most likely target for HMRC.
Lawyers will be aware of section 81(1) of the Law of Property Act 1925, which provides that a covenant made under a deed with two or more persons jointly is presumed to be made by them severally. Further, Schedule 13 to the Finance Act 2020 renders a director jointly and severally liable to HMRC where a company is insolvent, or potentially insolvent, in cases where tax evasion has occurred. The Law Place Limited recommends that Schedule 13 be amended to encompass directors of umbrella companies so that a director is jointly and severally liable with the umbrella company as an effective deterrent against phoenixing – this dishonourable practice of corporate dissolution to avoid liability.
An in-depth review of the law of joint and several liability and the effects on the risk calculus for employment businesses and clients will follow in due course. However, the main risks are summarised below. The key point is that umbrella companies do not have a divine right to exist, and payroll can be effectively managed by software or Financial Conduct Authority-approved payroll providers, which do not meet the statutory definition of umbrella companies.
Summary of changes:
The definition of an umbrella company is broad in scope and encompasses any business engaged in supplying labour, including consultancies that utilise employees to provide services to clients.
· Limited company contractors (aka personal service companies) are excluded from the definition of an umbrella company by section 61Y(1)(b)(ii) if a director owns more than 5% of the share capital of the company in question. Subsection 5 generally follows the definition of material interest in the IR35 legislation (Chapters 8 and 10 of ITEPA). Limited company contractors are taxed by Chapters 8 and 10 of ITEPA.
· In section 61Y(3), a “qualifying umbrella company payment” means a payment in respect of the provision of the services to the client by a worker.
· Section 61Z(2) sets out the circumstances where the client will be the relevant party, in particular, (i) there is a direct contract between the client and the umbrella company (section 61Z(2)(a)), (ii) the employment business is “connected” with the umbrella company (section 61Z(2)(b)(i)), and (iii) the client has a contract with a non-UK resident recruiter (section 61Z(2)(b)(ii)).
· The definition of “connected” in section 61Z(2)(b)(i) is likely to prove problematic. Although not directly referenced in Chapter 11, “connected” is defined in section 993 of the Income Tax Act 2007. which requires a person to have control over two companies for a connection to arise. However, the Government may rely on the dictionary definition of “connected” to capture the widest pool of relevant persons, so that a client is subject to risk of JSL even if it was not aware of the presence of an umbrella in the supply chain.
Preventing avoidance
A purported umbrella (section 61Z1) exists where the umbrella company arrangements conditions would otherwise be met but for the fact that the worker has a material interest in the company and is paid gross of tax contrary to the reasonable expectations of the participators. If section 61Z1 applies, section 61Z1(3)(b) treats the income received by the individual as employment income for income tax purposes, and section 61Y(2) will expose the relevant parties to the risk of JSL. While there are no other specific anti-avoidance measures, clients must be acutely aware of the risk of criminal liability for failure to prevent facilitation of UK tax evasion offences contrary to section 45 of the Criminal Finances Act 2017. It is a defence to prove that reasonable prevention measures were implemented, for example, by auditing an umbrella company used by an employment business. Risk can only be eliminated by ensuring that umbrella companies are not used.
What can Managed Service Providers do to minimise risk?
As seen above, a key concern for MSPs is that the umbrella company arrangements conditions in section 61Y(4)(c)(i) capture MSPs (the upper-recruiter) while excluding smaller employment businesses in the supply chain. Therefore, MSPs are at risk of JSL if an employment business in the supply chain uses an umbrella company to pay a worker unbeknownst to an MSP, even if a contractual condition prohibits the use of an umbrella company. In such circumstances, a client is also deemed to be a relevant party (section 61Z(2)(b)(i)) and therefore at risk of JSL under section 61Y(2). A client using agency workers is likely to be concerned about the risk of tax liability.
Due diligence is laudable and necessary in most circumstances, but Chapter 11 does not provide a defence. Liability is strict, just like a speeding ticket, so the response from clients must be decisive.
A competently drafted contract between an MSP and a client will contain indemnity provisions, potentially requiring the MSP to defend and hold harmless the client from and against any tax liability, penalties and interest. In such circumstances, a client’s legal adviser may reach the obvious conclusion that the risk of liability for an underpayment of tax outweighs any protection afforded by indemnification and due diligence. Indemnification is only of value if the indemnifying party remains solvent, and JSL means that HMRC can demand payment from the remaining relevant parties.
A well-advised MSP may entirely ban second-tier recruiters from operating as employment businesses. Recruiters supplying workers to MSPs will be required to operate as employment agencies and charge an introduction fee for sourcing a candidate. An MSP can either outsource payroll to a payroll provider or process payroll internally. The latter may prove to be a cost-effective option since an MSP is no longer paying for an umbrella company’s profits. The use of FCA-approved payroll providers will provide evidence of due diligence.
What can clients do to eliminate risk?
The same logic applies to clients in more straightforward supply chains involving one employment business and an umbrella company.
If a client wishes to eliminate the risk of JSL, it can insist that the recruiters it uses for supplying workers operate as employment agencies and merely charge a fee for introducing candidates. As mentioned above, payroll can be outsourced or handled using employed payroll clerks. The costs are not onerous. Where a client directly engages a worker, the requirement to comply with the Agency Worker Regulations 2010 falls away.
Accreditation
What good is accreditation or insurance policies which aim to protect against the outcome of an enquiry years in the future? Answers on a postcard, please.
The industry has 8 months to adapt to survive.
For legal advice on how to mitigate risk, such as indemnity and umbrella prohibition clauses, please contact Martyn Valentine LLB (Hons), Assoc CIPD, director of The Law Place Limited, for a free consultation.