Contractor or Employee: What’s the Risk?
Insights by Andrew Henshaw
We often see employers misunderstand the distinction between independent contractor and employee. This can be a very costly mistake.
In this article we discuss:
- the difference between an employee and an independent contractor;
- the approach courts take when determining whether a worker is an employee or an independent contractor; and
- the potential legal consequences for mischaracterising an employee as an independent contractor.
Let’s start with some key thoughts:
- Whether a worker is an employee or a contractor has significant implications from a legal perspective.
- Businesses can suffer financially if they do not fully understand the difference between employment and contractor relationships.
- Simply labelling a worker as an ‘independent contractor’ is not enough. The question of employee or independent contractor is one of substance, not form.
- Mischaracterising an employee as an independent contractor can have significant consequences. Sham contracting can carry large penalties for both the employers and the individuals involved in the sham contracting.
Difference between an employee and an independent contractor
Businesses have very different legal obligations, and workers have very different legal rights, depending on whether a worker is an employee or an independent contractor. Some of the ‘big ticket items’ include:
- Tax and superannuation:
Employers are required to take care of tax compliance on behalf of their employees. However, independent contractors are essentially working for themselves and are expected to manage their own tax compliance (e.g. paying income tax and GST).
Independent contractors will need to make their own superannuation contributions. However, there are some general exceptions to this rule (for example, where a contractor is hired principally for their labour and is, therefore, an employee for superannuation guarantee purposes).
- Employee entitlements:
Employees enjoy a number of legal entitlements. These include paid annual and personal leave (although these benefits are not provided to casual employees) and minimum rates of pay. Employees may also enjoy protection from unfair dismissal.
- Insurance and Liability:
From a liability standpoint, independent contractors are usually responsible for any legal liability incurred in providing their services (for example, liability for negligence). For this reason, independent contractors are generally expected to arrange their own insurance.
On the other hand, employers are generally liable for what their employees do in the course of their employment.
Contractor or employee? How do I know?
This is essentially a question of substance, not form.
The courts look to the substance of the relationship between the worker and the business to see whether the worker was an employee or independent contractor. This involves weighing up various factors.
A consequence of the substance over form approach is that a contract which states the worker is an independent contractor is not determinative. There are many decisions where a worker has been held to be an employee even though their contract said they were an independent contractor.
|Required to attend work at certain times on certain days. Little or no control over when and how work is performed.||Has control over days and hours worked. Has control when and how work is performed.|
|Must wear the employer’s uniform or otherwise appear like they are providing services on behalf of the employer.||Adopts their own branding, such as their own business logo or uniform.|
|The employer provides the equipment required to perform their work.||Must provide their own equipment. The equipment they provide is expensive or specialised.|
|Prohibited from sub-contracting, and expected to provide all services personally.||Can sub-contract their work out to other people to perform.|
|Paid an hourly wage and is not required to invoice.||Issues invoices and is paid per task completed.|
|Are not registered to receive GST.||Are registered for GST.|
An employer engages in sham contracting if, amongst other things, they misrepresent an employment relationship as an independent contracting relationship
Sometimes this misrepresentation is by mistake. Other times the misrepresentation is made in an attempt to avoid paying certain legal entitlements to employees (for example, minimum wages and leave entitlements).
Sham contracting carries heavy legal penalties. These can be imposed against the employer and particular individuals within the employer’s organisation who were involved in the sham contracting (e.g. HR managers and directors).
The Fair Work Act 2009 (Cth) contains a number of provisions aimed at preventing sham contracting. Under this Act, it is unlawful to:
- misrepresent an employment relationship as an independent contracting arrangement;
- dismiss an employee to re-engage them as an independent contractor; or
- knowingly make a false statement to persuade or influence an employee to perform similar work for the employer as an independent contractor.
Employers that contravene any of the above provisions may face significant legal penalties. Individuals involved in contraventions may also be liable.
Employers who misrepresent employment as an independent contracting relationship will have a defence under the Fair Work Act 2009 (Cth) if the misrepresentation was made unknowingly and not recklessly.
Ultimately, the question of whether a worker is an employee or independent contractor is a question of “if it looks like a duck it probably is a duck”.
Businesses should consider the nature of the relationship they have with people working for them. A contract that calls a worker an independent contractor does not necessarily mean that worker is an independent contractor.
Businesses which have misrepresented employment as an independent contracting relationship may be open to significant legal liability. For this reason, if a business is uncertain whether a worker is an employee, it should consider speaking with an employment lawyer.
This article is general information only. It is not legal advice. If you need legal advice, please contact us
Andrew acts for a diverse range of private businesses, high net-wealth individuals and family groups. He specialises in business structuring, tax disputes and complex tax issues. He is passionate about leading by example, getting wins for his clients, solving difficult legal issues and … snowboarding!