The countdown is on for recruitment firms that engage the services of umbrella companies, with legislation coming in April 2026 that will increase the legal responsibilities of these employment businesses.

We recently explored what umbrella companies can be doing now to prepare. In this article, we consider what steps recruitment firms can take in their journey to becoming legislation ready.

The impact of legislation

The new measure will involve the transfer of legal responsibility to account for income tax and National Insurance contributions from the umbrella companies that are deemed to employ the workers to the recruitment agencies that supply the workers to an end client. This means that the recruitment agencies will be liable for any shortfall. Where a business is not using an agency, the legal responsibility will fall on the end client business.

The ease with which new umbrella companies have historically been set up makes a crackdown challenging, with non-compliant players quickly able to replace any schemes identified as fraudulent. The legislative move is intended to reduce the number of unscrupulous umbrella companies in the market, as agencies tighten up their supply chains to minimise risk. With HMRC estimating that approximately £500m was lost to disguised remuneration tax avoidance schemes during 2022 to 2023, high hopes will be pinned on this new regulation.

Currently, the risks of being involved in a non-compliant supply chain are already considerable for recruitment agencies. Where HMRC identifies an employment business that is working with non-compliant umbrella companies, the business is at risk of action from HMRC, the Employment Agency Standards Inspectorate (EAS) and the Gangmasters and Labour Abuse Authority (GLAA).

Recruitment firms risk prosecution for failing to prevent tax evasion, financial penalties and considerable reputational damage, for example, by potential inclusion on HMRC's list of known tax avoidance schemes, promoters, enablers and suppliers.

In addition, the Employment Agency Standards may decide to close a business and ban its directors and others from running an employment business.

To guard against these risks, employment businesses that work with umbrella companies must carry out thorough due diligence which is, according to current government guidelines, 'regular, reasonable and proportionate' for the business.

These risks and requirements are already in place, but what can recruitment firms do in addition to following existing guidelines to prepare for legislation?

What recruitment firms can do now

As the sector waits for the government to consult on draft legislation, now is the time for recruitment businesses to prepare themselves as much as possible for the increased legal responsibilities coming their way. Knowledge is key, and employment businesses will need to understand and set up processes to monitor every aspect of their supply chain to try and cut out non-compliant operators.

Important steps include a thorough review of existing due diligence procedures to identify any weaknesses or areas that could be improved, such as when searching for and setting up a relationship with a new umbrella company. This includes ensuring that effective in-house training is running regularly, and duly attended, across all levels so that employees involved in this onboarding process will be equipped to spot and query any red flags. Firmwide policies and engagement around the importance of compliance and ongoing monitoring will help to build a company culture in this area, and workloads should allow for adequate time to be spent on compliance checks. Businesses should have a robust whistleblowing procedure in place to support employees to raise their concerns.

A review of all paperwork and existing agreements is necessary to ensure they are watertight and follow best practice. It is advisable to seek support from independent legal and tax experts for this, especially once the finer details of legislation have been shared. There is also an opportunity for recruitment firms to explore new tools and technologies available to reinforce robust monitoring processes and consider other ways that compliance can be cross-checked. One free resource, published by HMRC in December 2024, is an updated tool for working out what gross and net pay should be for a given umbrella company worker.

It is likely that recruitment firms will become more cautious and limit the number of umbrella companies they work with. Setting in place a policy to only work with firms that have been verified by a trustworthy accrediting organisation is one way to distil the pool of compliant umbrella companies. It is, however, also important to carry out due diligence on the accrediting organisations in the market before selecting one to rely on.

Will legislation eradicate non-compliance?

With the history of unscrupulous activity in the umbrella company market, legislation is warmly welcomed by the Payroll Compliance Authority to protect the approximately 700,000 temporary workers currently paid by umbrella companies, and compliant operators.

The PCA board has some concerns about how effective the new legislative measure will be in reducing the number of fraudulent schemes. This is primarily because thorough due diligence is already standard practice for most recruitment agencies, but recruiters are not accountants or extensively trained in detecting fraud. Nonetheless, introducing a greater legal responsibility for recruitment businesses should spur agencies to review their processes and carry out even more rigorous due diligence checks with regular ongoing monitoring.

We will continue to track developments as we move closer to legislation and provide helpful insights and updates to support workers, umbrella companies and recruitment agencies as they prepare.

Furthermore, as the only not-for-profit accreditor of umbrella companies, the PCA's sole purpose is to provide a benchmark by which recruitment firms can identify compliant payroll companies operating within the assignment-based contractor supply chain. Our members have undergone an independent and forensic assurance audit, including of their company's organisational structure, internal processes and financial procedures to determine that the business is fully compliant with all employment and tax legislation.

Read more about the PCA audit here.