Employee v Contractor: What You Need to Know
By David Bates, MD, Better HR – Australia’s leading HR and employment relations service for employers
More and more Australian business owners are finding out the hard way that their contractors are actually employees. Understanding the difference – and avoiding the consequences of getting it wrong – has never been more important.
Australian workplaces are extremely perse spaces – often including a mix of employees, contractors, apprentices, trainees and even volunteers. Each of these groups is subject to various rules and regulations and each is also entitled to certain rights and subject to certain obligations. While it is usually very easy to identify which workers belong to which category, the distinction between an employee and a contractor is often misunderstood or overlooked entirely, often with extremely expensive consequences.
Defining Employee and Contractor
An employee is someone you engage to work in your business for a wage or salary. They may be engaged on a full-time, part-time, fixed-term or casual basis and a contract of service will exist at law between the employer and the employee. In contrast, a contractor is a person you engage via a commercial arrangement to perform particular tasks or to provide some form of professional service. Instead of receiving a wage or salary, a contractor will usually be paid a fixed sum upon completion of the task or provision of the service, and a contract for service will usually be signed by both the principal (you) and the contractor.
Why It Matters
Different laws – and different rights and obligations – apply to employees and contractors, so it is very important that you correctly classify those you engage and provide the corresponding entitlements. Furthermore, the Fair Work Act 2009 makes it illegal for a person to classify someone as a contractor when they are really an employee. This is often referred to as sham-contracting.
If the person is an employee, their employment will almost certainly be governed by the Fair Work Act 2009 and may also be covered by a Modern Award. This means you will need to provide the employee with the 10 National Employment Standards (NES) – including leave entitlements, a maximum 38 hour working week and a copy of the Fair Work Information Statement – and they will also be protected from unfair dismissal once they have completed the minimum employment period.
A contractor, on the other hand, will not be entitled to the NES, will not be protected from unfair dismissal and will have their terms and conditions of engagement set out in the contract for service negotiated with the principal. A well-drafted contract for service will clearly explain when and how the contract can be brought to an end by either the principal or the contractor, and will also confirm the principal’s expectations and any conditions which the contractor must meet before being eligible to claim payment from the principal.
Contractor or Employee?
Many business owners mistakenly assume that a person will be a contractor if they have been issued with contract for service. Current laws and recent cases have made it very clear that this is not the case. Courts and tribunals will always look beyond the wording of contracts and focus, instead, on the true nature of the relationship between the parties. Unfortunately, there is no single factor that will determine whether a person is an employee or a contractor. Instead, a number of factors must be considered in turn.
Better HR summarises the factors in this way:
A person is more likely to be an employee if he or she:
- Must work the hours you tell them to work
- Performs work that you allocate and control
- Has no responsibility for any financial risk associated with their work
- Is entitled to receive a minimum wage (for example, as required by a Modern Award or the National Minimum Wage)
- Has income tax taken out of their pay by you during each pay period
- Receives a regular wage or salary
- Is entitled to receive paid annual leave and paid personal/carer’s leave (unless they’re a casual)
A person is more likely to be a contractor if he or she:
- Is responsible for deciding how their work will be performed
- Has the risk of either making a profit or loss from the work they perform for you
- Has the right to decide whether to engage someone else to perform the work on their behalf
- Takes care of their own superannuation and income tax
- Issues you invoices for their work and charges you GST
- Takes out their own insurance to cover things such as professional indemnity and workers’ compensation liability
- Is engaged by you to work for a specified period of time or to complete a specific project
- Decides for themselves when they will work for you
- Has no right to accrue paid annual leave or paid personal/carer’s leave
Some Important Final Points
Now that you’re across the key differences between employees and contractors, it’s important to clarify some final issues that often cause confusion:
- Australian Business Numbers
Many business owners mistakenly believe that a person holding an Australian Business Number (ABN) must be a contractor. This is incorrect. Never assume that because a person issues you with an invoice containing an ABN that he or she cannot be an employee.
While almost every business owner is aware of their obligation to make compulsory superannuation contributions for their employees, far fewer realise that this obligation may also extend to their contractors. Current laws require principals to make compulsory super contributions for contractors who are engaged principally to provide physical labour or mental or artistic effort. The same penalties will apply for non-payment of super to eligible contractors as would apply for non-payment to employees.
- Taxation Laws
The Australian Taxation Office (ATO) applies its own criteria when determining whether a person is an employee or a contractor for taxation purposes. It’s possible for the ATO’s criteria to conflict with the tests applied by the employment authorities for the purposes of employment law. If you’re engaging contractors, we recommend you seek expert advice from a qualified accountant or solicitor to ensure you’re meeting your obligations under Australian taxation law.
Engaging contractors can be a tricky business. We hope the above information ensures you’re able to understand – and meet – all your legal obligations, and helps protect you and your business.