Author: Lehanne Bleumink, Gold Seal HR Services Manager.

Although we have covered this matter in previous HR Helpline articles, it is a topic that is very complex. Many businesses have difficulty with understanding the differentiation between an ‘independent contractor’ and an ‘employee’. The distinction between contractors and employees can be a grey area at times, however it is important that the right distinction is made, as different legal and tax obligations apply.

Recently the Federal Government announced it would be providing funding to the Fair Work Ombudsman (FWO) to establish a dedicated unit to specifically target employers engaged in sham contracting. An employer may face the following penalties if the FWO suspects an employer is involved in a sham contracting arrangement:

  • Up to $12,600 for individuals, per contravention: and
  • Up to $63,000 for a company, per contravention.

SHAM CONTRACTING ARRANGEMENTS

A sham contracting arrangement occurs where an employer attempts to disguise an employment relationship as an independent contracting arrangement. This may be done for the purposes of avoiding responsibility for employee entitlements.

Under the sham contracting provisions of the Fair Work Act 2009, an employer cannot:

  • Misrepresent an employment relationship as an independent contracting arrangement.
  • Dismiss, or threaten to dismiss an employee for the purpose of engaging them as an independent contractor.
  • Make a knowingly false statement to persuade or influence an employee to become an independent contractor.

Not only does the Fair Work Act 2009 provide serious penalties for contraventions of these provisions, there could also be further implications if an independent contractor is in fact deemed to be an employee. For example:

  • The person would be entitled to employment benefits applicable – such as paid annual and personal/carers leave, long service leave, superannuation, etc.
  • The person may have unfair dismissal rights.
  • The company may have breached its income tax withholding obligations and possibly payroll tax obligations.

There is a lot to consider in deciding whether to engage a person as an independent contractor or an employee. It is very important that the method of employment reflects the true nature of the relationship. Even if an employee sees themselves as a contractor and is happy with the working arrangement, this does not mean that the employer is not breaking the law.

HOW DO YOU DETERMINE THE DIFFERENCE?

There are a number of factors involved in determining the difference between an employee and an independent contractor. No single indicator can determine this. Courts always look at the totality of the relationship between the parties when determining the status of employment and will examine all the details in each case. Even if someone quotes an ABN and provides a tax invoice with GST charged, this does not automatically make them a contractor. You also need to consider other factors, in particular the degree of control exercised by the employer.

Independent contractors must be conducting their own business to be deemed contractors; they cannot be part of your business and they are required to be generating goodwill for their own business, not for your business. The contractor is required to be free to work for other businesses and to accept or reject other work.

There are some common indicators that may contribute to determining whether a person is an employee or independent contractor:

Degree of control over how work is performed

  • Employee – performs work under the direction and control of their employer on an ongoing basis.
  • Contractor – has a high level of control over how work is done.

Hours of work

  • Employee – generally works standard or set hours (a casual’s hours may vary from week to week).
  • Contractor – under agreement, decides what hours to work to complete the specific task.

Expectation of work

  • Employee – usually has an ongoing expectation of work (some employees may be engaged for a specific task or period).
  • Contractor – usually engaged for a specific task, has the right and capacity to perform work for others.

Risk

  • Employee – bears no financial risk, this is the responsibility of the employer.
  • Contractor – bears the risk for making a profit or loss on each task. Usually bears the responsibility and liability for poor work, or injury sustained while performing the task. As such, contractors generally have their own insurance policy.

Ability to delegate

  • Employee – performs the work personally and generally cannot subcontract the work to someone else.
  • Contractor – unless otherwise specified in the contract, can subcontract or delegate the work.

Superannuation

  • Employee – is entitled to have superannuation contributions paid into a nominated superannuation fund by their employer.
  • Contractor – usually pays their own superannuation.

Tools and equipment

  • Employee – tools and equipment are usually provided by the employer.
  • Contractor – uses their own tools and equipment when providing services.

Method of payment and tax

  • Employee – paid regularly (weekly/fortnightly/monthly) and has PAYG tax deducted by their employer.
  • Contractor – has obtained an ABN and submits an invoice for work completed, or is paid at the end of the contract or project, pays their own tax and GST.

Leave

  • Employee – entitled to receive paid leave, or receive a loading in lieu (such as a casual employee).
  • Contractor – does not receive paid leave.

It is advisable for employers to regularly audit their contracting arrangements to determine the risk of an employment relationship being found to exist. The contractual arrangements should reflect the reality of the relationship, bearing in mind however that the contract itself is not the only determining factor. Things can change over time, so what may start out to be a legitimate independent contractor arrangement may become more of an employee relationship.

For assistance on any of your HR/IR requirements – call Gold Seal on 03 9510 5100 or email hrservices@goldseal.com.au