Independent Contractor or Employee: What’s The Difference?
08 Jun 2023
It has become exceedingly common across all industries for companies to hire independent contractors (contractors) for greater flexibility or to meet temporary increased demands for work.
There are various advantages to hiring an employee or an independent contractor (which is considered in detail here) but in doing so, companies should be aware of the key differences between the 2 types of workers to avoid issues of sham contracting, which can often be costly.
Why is it important to know the difference between an employee and an independent contractor?
The most important reason to be familiar with the characteristics of employees and independent contractors is to avoid the risk of sham contracting.
Sham contracting is where a business hires a worker as an independent contractor when, in reality, they are an employee. This could be where:
- The terms in the written contract are indicative of an employment relationship; or
- There is no written contract or not a comprehensive one, and the actual day to day work conditions look more like that of an employee (i.e. multi-factorial test).
Businesses should be aware that the Fair Work Act 2009 (Cth) prohibits them from:
- Knowingly or “recklessly” represent to an employee they are an independent contractor when they are not;
- Knowingly say something to false to convince an employee to do essentially the same work but as an independent contractor; or
- Dismiss or threaten to dismiss an employee in order to engage them as an independent contractor to do essentially the same work.
If a business is found to have a sham contracting arrangement, it can lead to underpayment claims and penalties against the business and individuals as well. Consequently, the affected workers can try to claim penalty rates, monetary allowances, overtime payments, leave entitlements, superannuation contributions, etc, which can be costly to resolve.
As such, it is vital for companies to be very aware whether their worker is an employee or an independent contractor.
How to identify if a worker is an employee or an independent contractor?
While the courts would historically apply a multi-factorial test in determining if a worker is an employee or an independent contractor, two recent High Court decisions have indicated that the contents of a contract is key in making such a determination. However, please note that where there is no contract or where the contract is ambiguous on the nature of the working relationship, the multi-factorial test will continue to apply.
- Contents of the contract – Contractual terms and obligations
In both ZG Operations Australia Pty Ltd v Jamesk and CFMMEU v Personnel Contracting Pty Ltd the High Court found that where the relationship between the parties is wholly committed to in contract, little weight should be placed on applying the multi-factorial test.
This means that where there is a complete written contract, it is no longer appropriate to consider the subsequent behaviour of the parties. The character of the relationship between the parties must be assessed by reference to the contractual terms and obligations as written.
Simply put, if the contract provided to the worker expressly characterises the worker as an independent contractor, this will be the primary consideration of the courts when making a decision.
- Multi-Factorial Test
As noted above, this test will only be applied where there is no contract or where the contract is ambiguous on the nature of the working relationship. The multi-factorial test looks at the totality of the business-worker relationship to determine whether the worker is an employee or an independent contractor. The test does not require all factors to be satisfied but the courts do use a combination of the below factors to paint a broader picture.
- Control over work
Control over work generally refers to the circumstances in which the work is performed, which may include the hours worked, location, and how the work is completed. Employees have very limited control over the work performed as the work is directed and controlled by the employer with the employee obligated to comply with lawful and reasonable directions.
Independent contractors, on the other hand, have a high level of control over their work. Such work may be subject to inspection or supervision by the business but the contractor has normally has freedom in the way tasks are performed.
- Work/Task Delegation
When given a task, employees are generally required to complete the work themselves although there may be some power to delegate duties to other employees.
This is different from independent contractors, who have the ability to delegate or subcontract the work to be performed to another person or business as they see fit.
- Expectation of continuing work
There is an expectation of ongoing work (except for fixed term and casual employees). This means that employees expect to be provided with work for the extent of their employment relationship instead of the specific task or project they started on.
Independent contractors are usually hired for a specific task or project, as outlined in the contract for services. Once the task or project has been completed, there is no expectation for the business to provide further work beyond what was agreed.
- Multiple Employers
Employees are restricted when it comes to working for multiple employers and are likely to require permission from their primary employer for work conducted for another employer.
Independent contractors are not similarly restricted in working for multiple businesses and do not have to seek permission to do so.
- Tools and Equipment
Employees are usually provided the tools and equipment necessary to fulfil their duties by the employer. Alternatively, the employer may provide allowances or reimbursements in lieu of the provision of tools and equipment but it should be noted that the responsibility and costs of the provision and maintenance of tools and equipment usually lies with the employer.
The tools and equipment for independent contractors are not usually provided by the business. While the contract will specify who is required to provide tools and equipment, this is usually the responsibility of the contractor.
- Absences from work
As employees are subject to lawful and reasonable directions over hours of work and when work is to be completed, granting of leave of absence is subject to the discretion of the employer in accordance employee’s entitlements under the relevant industrial instrument or legislation.
As independent contractors have more control over how and when work is completed, permission to take leave is not necessary as long as the relevant work is performed within the time agreed to by both parties.
- Paid time off
Following the above, if a worker is classified as an employee, they are entitled to paid time off on various occasions such as annual/personal leave or public holidays, in accordance with the relevant industrial instrument or legislation.
Independent contractors are not afforded the same entitlements as employees. As such, while they have more flexibility over when to work, they are not provided with paid leave when they choose to take some time off.
- Compensation for work
Employees are usually compensated on a regular basis by way of an annual salary or wages. This payment is often fixed and provided for time actually worked.
Independent contractors are not paid directly for the actual time worked, as employee are above. Instead, parties agree to a sum of money to be paid on completion of job which may be staggered across progress payments. Alternatively, independent contractors may choose to invoice the business on a time basis for work completed.
- Financial responsibility
Employees have very little financial responsibility in comparison to independent contractors as financial responsibility lies mostly with the employer. Consequently, employees absorb no financial risk as income tax is deducted from wages by the employer and the employer also pays superannuation on their behalf. Additionally, workers compensation insurance is usually taken to cover employees without cost to the employee.
Independent contractors, on the other hand, carry the responsibility for making profit on each task and will be personally responsible for poor work. Independent contractors also pay their own superannuation and income tax (including GST), although there may be specific circumstances where a business may need to pay for the contractor’s superannuation.
Independent contractors are usually responsible for any injury sustained while performing work as business is not liable to cover a contractor for workers compensation but in some instances they may do so where the contractors are closely tied to the business or when it is a express and external requirement.
- Refusal to Perform
As employees have limited control over their work, there is generally no right for an employee to refuse the performance of an allocated task as long as it is lawful and reasonable direction.
Independent contractors are able to refuse to perform task if the task is outside the scope of the contract even when directed to do so. The obligations of an independent contractor, which include the scope of the services provided, are outlined in the arrangements with the business. As such, if a task is outside the scope, the contractor can refuse to perform it.
The courts will consider all the above factors in determining whether a worker is an employee or an independent contractor. As such, it is important to be aware of the reality of the worker’s relationship with the business as these factors could be decisive should the relationship not be clearly outlined in the contract.
If you are uncertain about the relationship between your business and your workers, please contact Constructive Legal Solutions on admin@constructivelegalsolutions.com.au. We can support you in providing advice on the arrangements as well as assist you with preparing an agreement for an independent contractor.
