The new agency regulations and limited company opt-out

A reader asks:

There are now many articles asking specific questions relating to the 'agency regulations' and opt-outs. Can we please have a bullet point list of the main points? Can you include how these points will affect Contractors (Limited Companies, PAYE, Umbrella arrangements et al), what realistic choices do Contractors have?

At present, whilst the answers to the questions are comprehensive and useful (as always) they rely on the questioners knowing the pitfall areas in advance. I am sure there are enough of you readers now being inundated with requests to opt-out without knowing the consequences to warrant such an article with all the points in one place!

Kevin Miller replies

The end of 2003 saw the publication of Statutory Instrument 2003 No. 3319, The Conduct of Employment Agencies and Employment Businesses Regulations 2003. The legislation, which mainly comes into effect from 6 April 2004 with certain transitional provisions, has several developments that will affect freelancers working through limited companies.

The new regulations introduce a number of changes aimed at giving added protection to temporary workers and, where the work involves children and vulnerable people, protection to the clients.

The main changes

The definition of work seeker has been changed to bring workers who work through a service company within the regulations. New rules restrict the ability of employment agencies to penalise or restrict workers from taking up permanent posts with clients or changing to a different agency. Agencies are now limited in what they can charge the client by way of 'transfer fees' – the so called temp to perm and temp to temp fees. Agencies cannot withhold payment to the worker on the grounds that the worker has not produced a time sheet that has been authorised by the client or that the agency has not been paid by the client. Agencies cannot link the provision of work finding services to workers having to use ancillary services of the agency. Agencies cannot claim to be working as both an agency and an employment business in the same transaction – i.e. they must be consistent in how they portray their role to both the client and the worker. Agencies must now obtain details of the work including the type of work the work-seeker would be required to do, the location at which and the hours s/he would be required to work and any risks to health and safety known to the hirer and the steps that have been taken by the hirer to prevent or control such risks. Agencies must also ensure that the work-seeker has the experience, training, qualifications and any authorisations that the hirer considers are necessary, or which the worker needs to have by law or by the requirements of any professional body, in order to carry out the work. Agencies acting as employment businesses must also make it clear to the work seeker and the client whether the work seeker is engaged under a contract of service or a contract for services. Agencies have new additional responsibilities where the work seeker is required to have special qualifications in order to work with vulnerable people. Where the work seeker is required to work away from home the agency or employment business now has to ensure that suitable accommodation will be available. Agencies and employment businesses cannot seek payment for obtaining work for the work seeker other than from those who work in modelling and entertainment industries.

Limited companies

The change in the definition of 'work seeker' extends the legislation to cover the supply of employment agency and employment business services to workers who provide their services through limited companies.

This change is a compromise between the Government, who argued that limited company contractors needed to be covered by the regulations and various representative organisations who wanted to have limited company contractors exempted entirely. They argued that contractors working through their own company were quite different from the typical temporary worker and did not need the same level of protection as a 20 year old temporary secretary or au pair.

In the end the Government has compromised. It has extended the regulations to cover service companies but has then introduced an opt-out provision for limited companies.

Limited company opt-out

This opt out is contained in section 32(9) of the Act, which says: " Subject to paragraph (12), paragraphs (1) - (8) shall not apply where a work-seeker which is a company, and the person who is or would be supplied by that work-seeker to carry out the work, agree that they should not apply, and give notice of that agreement to an employment business or agency, provided that such notice is given before the introduction or supply of the work-seeker or the person who would be supplied by the work-seeker to do the work, to the hirer."

Regulation 32(10) goes on to say that "The person who is or would be supplied to carry out the work by a work-seeker which is a company, may withdraw a notice which was given in accordance with paragraph (9) by giving notice to the employment business or agency in question of the withdrawal of the earlier notice of agreement…"

The decision to opt out must be taken by both the person being supplied and their service company, but a decision to opt back into the regulations can only be taken by the worker, not by their service company. Where the service company and the worker are not in effect one and the same (for example where it is an umbrella company) then the final say on exercising the opt out rests with the worker.

Regulation 32(11) makes it clear that a limited company contractor cannot decide to opt-out part way through an assignment. Finally Regulation 32(12) prevents the opt-out option being used where the work involves working with those under 18 or those who are infirm and need attention. This is to ensure that new safeguards that have been introduced to cover those working in those situations cannot be circumvented by the use of a personal service company.

Effect of the opt-out

If the worker and their company choose to opt out of the Regulations then the limited company and the worker to be supplied are removed entirely from the scope of the Regulations. The opt-out is not selective; none of the provisions of the Regulations will apply where the opt-out has been exercised. Hence, a work seeker taking the opt-out loses all the new protections included in the Regulations as noted above.

Paying for Marketing

Another issue that contractor groups were concerned about when they lobbied for a limited company exclusion was that this was necessary to allow limited companies to engage a third party to market their services in return for a fee. Without such an exclusion, the Regulations for employment agencies and employment businesses would also apply to any other such third party that found them work.

This second concern has been separately met by Regulation 26(7), which provides that the prohibition on employment agencies charging work seekers for finding work does not apply to work seekers that are limited companies. This Regulation applies regardless of whether a limited company uses the limited company opt out in Regulation 32.

Temp to temp and temp to perm fees

Another change noted above, that affects limited company contractors who do not opt out, is the new restrictions that have been placed on the ability of agencies and employment businesses to attempt to prevent workers transferring to new agencies while working for the same client or to prevent them becoming permanent employees of the client.

Regulation 6 of the Regulations prevents the agency or employment business threatening any form of "detrimental action" against a worker who wants to transfer in this way.

In addition Regulation 10 addresses the issue of the fees that employment agencies and businesses can charge when a worker they have placed with a client wants to transfer to another agency while still working for the same client or when the client wants to recruit the worker permanently. These "transfer" fees cannot be charged where the transfer takes place more than 8 weeks after the original engagement with the client has ended or 14 weeks after the start of the engagement if that is later. So, for example if a contractor works 10 weeks for a client via an agency and is then offered a permanent position the agency cannot claim a transfer fee if that permanent position offer comes 8 weeks after the engagement has ended. However if the original engagement was for only two weeks then the 'free transfer period' starts 12 weeks after the engagement ended – that is 14 weeks after the engagement started.

So another issue facing limited companies when deciding whether to opt out of the Regulations is whether they want the additional protection the new regulations offer regarding agency restrictions on them working for a client via a new agency or on them obtaining work direct from a client that the agency had previously introduced them to?

Should limited company contractors opt-out?

Given that opting out denies a limited company contractor access to these new protections why would such a contractor want to opt out? The logic behind the opt out is that "real businesses", engaging on a business to business basis with clients, can take their own steps to ensure their contracts have the necessary protections a business would need and, therefore, did not need such protections.

There is an argument that says that if you choose not to use the opt-out then this may cast doubt on whether you are really in business on your own account. The Revenue might well look at this issue and use it to challenge the IR35 status of a freelancer whose service company does not use the opt-out. They may also consider that these new regulations represent a degree of control that suggests a master/servant relationship.

Nevertheless it seems likely that agents will seek to encourage contractors to use the limited company opt out because this will reduce their regulatory burden and hence their costs. It will also serve to further distance the end client from possible employment liabilities.

Personal service?

There is another issue arising from the use of the limited company opt out. The opt-out has to be agreed by the work seeker (that is the company) and by the worker.

The 'work seeker' includes "the person who would be supplied by the work-seeker to carry out the work." It is not clear how this will tie in with the operation of a valid right of substitution where it can be argued that the identity of the person who is likely to carry out the work is either not known or may change. It could be argued that if a worker signs the opt-out they are implying that the contract required their personal service.

Overall, it appears that while not opting out might weaken your claims under IR35 to be a real business and in business on your own account it is unlikely to be a significant negative factor where there are other strong factors that point towards your status under IR35 being 'self employed'. For example, having a strong right of substitution or being able to demonstrate that the end client's level of control is totally incompatible with what would exist between an employer and an employee, should still render you being outside IR35 even if you have not taken the Agency regulations limited company opt out. The issue of whether signing the opt out implies personal service will have to be debated but overall it seems likely that the company can argue that the requirement will apply to any worker they supply or any substitute or sub-contractor they engage and does not, by itself, weaken any claim that personal service is not required under the contract.

Steve Greenwell of Qdos has confirmed that not opting out will not, by itself, be a reason for cover being denied under their tax expense policies (including FO35).

Transitional provisions

The transitional arrangements are set out in Schedule 1 to the legislation. Regulation 2 of the section says that: "Subject to the following provisions of this paragraph, these Regulations apply in respect of existing contracts with effect from the date these Regulations come into force."

There is no mention in Schedule 1 of Regulation 32 regarding the limited company opt-out. Hence it is clear that the opt-out will not apply to contracts in force on 5 April 2004. This is logical as Regulation 32 already makes it clear that the opt-out cannot be utilised after the engagement has started. Clearly freelancers will only be able to take advantage of the opt-out when they first change or renew contracts after 6 April.

Neither is Regulation 26(7) mentioned so it appears to become effective on 6 April 2004.

The provisions relating to the application of Regulation 10 re transfer fees are far more complicated. The DTI guidance summarises the position as follows: "After 5 July 2004, regulation 10 will apply to existing contracts in the same way as it applies to any contracts drawn up on or after 6 April 2004, the date on which these Regulations come into force. Similarly temp-to-third party fee clauses contained within existing contracts are enforceable until 5 July 2004. In respect of temp-to-third party transfer fee clauses within new contracts or existing contracts from 6 July 2004, these will only be permissible where charged within the " relevant period"."

As far as the other main provisions are concerned the following Regulations will not apply to contracts in force at 5 April 2004 during the transitional period from 6 April to 5 July 2004: Regulation 5 restriction on requiring work-seekers to use additional services Regulation 6(1) restriction on detrimental action Regulation 12 prohibitions on withholding payment to work seekers Regulation 26 charging fees to work-seekers Regulation 28(2) prohibition on disclosure of information to current employer,

Conclusion

Here is yet another complex set of Regulations, which will affect freelancers.

While Regulation 32(13) makes it illegal for employment agents and businesses to require limited companies and their workers to take the limited company opt-out as a condition of finding them work, it seems likely that they will find ways of encouraging the use of the opt out.