5th July 2023
This article first appeared on the website of the Employment and Industrial Relations Law Committee of the Legal Practice Division of the International Bar Association, and is reproduced by kind permission of the International Bar Association, London, UK. © International Bar Association.
The global Covid-19 pandemic, whether by design or default, opened up the potential for employees to work from home in different jurisdictions to where their employer business is situated. Many employees took the opportunity to temporarily or permanently move location, to live with family or in holiday homes to ride out the lockdowns. Employees are now fiercely telling employers that they want that flexibility to remain, leading to an increase of employer of record arrangements.
This, coupled with the recruitment crises in many western economies, has led to a significant increase in interest in employer of record (EORs) or professional employment organisations (PEOs), which offer businesses the ability to employ individuals anywhere in the world, often through one contract and payroll system, without requiring an entity to be established in that jurisdiction. The primary concept of the employer of record model is that the EOR entity employs one or more individuals in the relevant jurisdiction and effectively ‘seconds’ the employee(s) to the business. The employer of record, therefore, takes responsibility as the employer for managing and paying the individual(s) and reduces the administrative burden for the business.
EORs and PEOs (referred to here as EORs for ease) can provide exceptional ease for businesses, who may want to test having a remote workforce or a footprint in a new location. However, they can also present challenges for the uninitiated and it is important that businesses understand that some limitations may exist on what they are able to achieve, as there is no direct contractual relationship with the individual. This is important, as the EOR model is based on there being limited risk of the individual being found to be an employee of the business.
The popularity of EORs is increasing exponentially in the UK, both with UK businesses looking to have internationally based employees and with overseas employers wanting to have a footprint in the UK. With the UK’s current relatively restrictive immigration policies (or at least the perception of them) and the clear desire of employees to have more flexibility over their working location, the ability to recruit internationally is welcomed. However, it is important that UK businesses understand that the EOR model may not be compliant in some jurisdictions. It is vitally important for businesses to conduct thorough diligence on any EOR that it is proposing to use to ensure that they have fully checked the requirements of the jurisdiction in which the individual is to be based. This should be supported by the commercial terms which businesses should check to see who bears any compliance risk.
The use of EORs in the UK is not prohibited, but businesses outside the UK looking to use an employer of record for engagement in the UK will need to ensure that their EOR provider is familiar with the minimum requirements of UK employment law, such as the requirement to auto enrol qualifying employees in a pension scheme. This requirement will still need to be complied with even if the business does not have an entity in the UK and the business should ensure that the commercial terms with the EOR require it to comply with these obligations. It’s also worth bearing in mind that the UK does not require a foreign employer to have an entity in the UK to employ staff, overseas employers can use a branch or engage directly with an individual for employment in the UK from an employment law perspective.
One of the main concerns for businesses is that the activities of the individual may give rise to a permanent establishment in that jurisdiction, such that the business becomes liable for corporation tax. EORs understandably will not advise on this point and so it is crucial that businesses seek their own independent tax advice.
Aside from the legislative obligations, what other issues can arise that businesses may not have considered from the outset?
If the individual is not a UK national and requires sponsorship to work in the UK, an EOR arrangement may not be appropriate. Under the requirements for a sponsorship licence in the UK, the sponsoring entity must have day-to-day management of the individual. Under an EOR arrangement, the business will not have this and, so, will not be able to obtain a sponsorship licence to engage the individual. The EOR is unlikely to be able to obtain a licence, as it is unlikely to be able to demonstrate the required need for the individual to its business.
As employment lawyers, we often discuss termination before contracts have even commenced, such is our cynicism about employment relationships. However, in the context of EORs, it is even more important that businesses give some thought to how relationships will end. In the UK, if employees have two or more years’ service, they are protected from unfair dismissal, which means the employer must have a fair reason for dismissal (as prescribed by statute) and follow a fair process in effecting the dismissal.
In an EOR arrangement, the employer is the EOR, not the end-user business, and so the onus is on the EOR to establish the reason for dismissal and to carry out the process. While commonly businesses may seek an indemnity for such potential liabilities, commercially, the EOR tends to hold the bargaining power such that it requires an indemnity from the business as it bears the primary liability for any claims. It can be difficult for an EOR to demonstrate a fair reason for the dismissal, given that any rationale for redundancy will be the businesses’’ justification and not that of the EOR. Equally, it is important for this reason that any disciplinary or performance management processes are carried out by the EOR and not the business end-user.
For these reasons, the business often ends up bearing the termination costs, which can be higher than they would have been had the business engaged the individual directly, given the practical difficulties in establishing a fair reason for dismissal.
There can be practical issues with the EOR model when it comes to protecting the business interests of the end-user following termination of the engagement. Businesses understandably want to seek to protect their confidential information and business contacts, but as there is no direct contractual relationship between the business and the individual, to have any hope of enforcing post-termination restrictions, it is important that the contract between the EOR and the individual acknowledges the EOR’s legitimate interest in protecting its client’s business. Inevitably, this presents a higher-than-average risk to enforcing covenants which can already be problematic in the UK.
Practically, the onus is also on the EOR to bring the proceedings to enforce such restrictions. The commercial terms between the EOR and the business need to be clear that the EOR is obliged to take such action, although inevitably this will require an indemnity from the end-user for the costs incurred.
Side agreements could be a potential solution to this issue, but any agreement between the business and the individual would need to be very carefully drafted so as to avoid the risk of creating an employment status with the business, which is the very risk the EOR arrangement seeks to avoid.
A similar principle applies during the relationship to the creation of intellectual property. Under UK law, intellectual property created in the course of employment belongs to the employer, which means that this needs to be assigned from the EOR to the business.
Issues can also arise in relation to the transfer of employment either on the sale of a business as a going concern or, under UK law, on the change of a service provider. In both of these scenarios, under UK law and subject to the relevant criteria being met, the Transfer of Undertakings (Protection of Employment) Regulations 2006 (TUPE) could apply to transfer the employees employed by the business in that undertaking to a third party.
However, in an EOR situation, the individuals are not employed by the business, they are employed by the EOR and, therefore, technically TUPE does not apply. It may be possible to reach commercial agreements either with the third party or the EOR to facilitate the transfer of the individual to the third party, but this needs to be given careful thought if the individual is key to the business.
The use of employer of record models can present some challenges for businesses looking to achieve a simple solution to hiring globally. In the majority of cases, these challenges can be resolved through a commercial agreement, but require some foresight and planning to ensure that the business is not left exposed and can take advantage of the lightening of the administrative load. EOR models are likely to be most beneficial for short-term engagements of a small number of individuals in order to test engagement in a new market. For longer term arrangements, more traditional engagement routes may provide the best solution.