Umbrella companies play an increasingly important role in the STEM industry, where businesses often rely on flexible, highly skilled contractors to deliver specialist and project-based work.
An umbrella company is typically used where a recruitment agency or a temporary staffing agency places workers to provide services to an “end client”. In most cases, the recruitment agency matches the skilled contractor to the end client business but, rather than placing the worker on the agency’s payroll, the worker is employed and paid by an umbrella company.
The arrangement usually involves:
The umbrella company enters into an employment contract with the worker and is responsible for payroll, administration, tax administration under PAYE, and statutory benefits such as holiday pay and statutory sick pay. The umbrella company then invoices the recruitment agency or the end client for the worker’s services, covering the worker’s pay, the umbrella company’s fee, and any additional employment costs.
In short, the umbrella company sits between the worker and the agency, acting as the employer of the worker and as a service provider to the recruitment agency. Workers employed by umbrella companies are entitled to the same employment rights as other employees. The use of umbrella company arrangements has expanded alongside growth in the UK’s STEM and technology sectors. Industries such as software development, engineering, life sciences, renewable energy, telecommunications, and cybersecurity increasingly rely on flexible and project-based labour models to address specialist skills shortages and fluctuating project demands. These arrangements can be beneficial for all parties: workers have statutory employment rights (such as sick pay, holiday pay, and pension contributions) and their PAYE and NIC obligations are managed by the umbrella company, while end clients and recruitment agencies do not usually become the worker’s employer.
The UK’s reliance on flexible labour in STEM and technology is underscored by the scale of these sectors. Net tech employment in the United Kingdom reached an estimated 2.18 million workers in 2024, accounting for approximately 6.5% of the overall workforce, and is projected to rise again in 2025. At the same time, AI adoption is accelerating. Government and ONS research indicates that around one in six UK organisations has adopted at least one AI technology, while 9% of firms reported AI adoption in 2023. These trends help explain why recruitment agencies, end clients, and umbrella companies continue to play a significant role in sourcing specialist workers for digital transformation, software engineering, cloud, cyber, and data-led projects.
Prior to the ERA 2025, employment agencies and employment businesses were regulated under the Employment Agencies Act 1973 and conduct of Employment Agencies and Employment Business Regulations 2003. Traditionally, an “employment business” was understood to mean business that supplies its own employees or workers to operate under the control of another organisation.
This narrow definition left a regulatory gap. Intermediary companies that formed part of the temporary labour supply chain but did not directly place workers into job roles did not fall within the definition of an “employment business”. These intermediaries became commonly known as “umbrella companies”.
Historically, the term “umbrella company” has not been defined in statute, and such companies have generally fallen outside the scope of conduct regulation. In practice, this lack of oversight created opportunities for some companies to adopt practices that would not otherwise be permitted.
Under the ERA 2025, umbrella companies are being brought within a more formal regulatory framework, with increased emphasis on protecting workers’ rights, ensuring tax compliance, and improving transparency in agency labour markets.
The most significant change affecting umbrella companies is the extension of the definition of “employment business” to capture umbrella company arrangements, bringing them within the scope of more direct regulation. This means they are expected to fall more clearly within the framework governing the temporary labour market, including the Conduct of Employment Agencies and Employment Businesses Regulations 2003.
The key impacts of bringing umbrella companies into this regulatory regime will be:
The aim of this reform is to ensure that workers employed via an umbrella company receive comparable rights and protections to those working directly for an employment business.
From April 2026, new tax rules shift PAYE risk upwards in umbrella company supply chains. In most cases, the recruitment agency that contracts with the end client will bear responsibility if an umbrella company fails to meet its PAYE obligations, and where no agency is involved, liability may sit with the end client.
Where PAYE is unpaid, HMRC may recover underpaid amounts from the responsible agency, or from the end client where no agency is involved. Equivalent provisions are intended to apply for National Insurance contributions.
These measures apply to payments made to umbrella company workers on or after 6 April 2026.
Responsibility for enforcing the existing framework has historically sat with the Employment Agency Standards Inspectorate, now replaced by the Fair Work Agency (FWA). The FWA is expected to have wide enforcement powers, including seeking documents, issuing warning notices, seeking undertakings, applying for enforcement orders against non-compliant businesses, and imposing penalties for non-compliance.
The Government’s consultation, “Make Work Pay: Modernising the Agency Work Regulatory Framework”, ran from February to May 2026 and sought views on further regulation of umbrella companies, fair pay, transparency, and protections for agency workers. Further consultation or implementing measures may follow.
The scale of the temporary labour market also helps explain the continued relevance of umbrella companies. In 2024, around 872,000 temporary or contract workers were on assignment on any given day in the UK recruitment market, and temporary and contract placements accounted for 76.7% of recruitment sector GVA. At the same time, STEM skills shortages remain pronounced: Department for Education estimates show 9.4 million people were in STEM employment in 2023, while parliamentary and industry analysis has highlighted persistent shortages in engineering, digital and cyber skills, with many vacancies in technical sectors remaining hard to fill. Against that backdrop, umbrella arrangements are likely to remain common in high-growth sectors such as technology, engineering, healthcare, fintech and renewable energy, even as the compliance burden increases.
As businesses continue to invest heavily in artificial intelligence, digital transformation, and infrastructure modernisation, the umbrella sector is likely to remain important. However, the ERA 2025 signals a clear shift toward tighter regulation, greater accountability, enhanced tax compliance, and stronger worker protections across the modern contingent labour market, with some reforms taking effect in stages.
© 2026 BTO Solicitors LLP | V.A.T. No: 260371482 | All rights reserved.
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