Navigating the Minefield: Contracts of Employment vs Independent Contracts
Most employers are familiar with the distinction between an employee and an independent contractor in terms of the “end-game”: while employees are entitled to certain benefits of employment (such as paid annual and personal leave), independent contractors are not. For many employers, this distinction makes engaging certain workers as contractors an attractive proposition. While doing so can be a legitimate business strategy, certain assertions can set alarm bells ringing for lawyers: “she’s definitely a contractor”; “he’s on a contract”; “we’ve contracted them”.
The substantive distinction between whether a work arrangement is a contract of employment or a contract to provide services can be difficult to establish. Whether a worker is ultimately found to be engaged as an employee or a contractor is something that will be decided by a court or tribunal, rather than the label given to the worker by an employer.
To help navigate the minefield, this article takes a look at the factors that will be considered in determining whether a worker is an employee or a contractor, the consequences of getting it wrong, and strategies you can adopt to avoid the pitfalls.
SPOT THE DIFFERENCE: EMPLOYEES (ROOSTERS) AND CONTRACTORS (DUCKS)
A common misapprehension is that the way in which a work relationship is thought of by the parties or described by the contract will be determinative of how that relationship is actually characterised. While the understanding of the parties and the title used are relevant (particularly when a worker is more highly skilled or has a reasonable level of bargaining power), they are not decisive.
|“The parties cannot create something which has every feature of a rooster, but call it a duck and insist that everybody else recognise it as a duck.”1|
Whether a worker is an employee or contractor will depend on how the total relationship between the parties can be characterised and involves a number of considerations, including those below.
A relationship is more likely to be regarded as one of employment where the putative employer exercises (or has the legal right to exercise) control over the work of the other party, including what work is performed, as well as when and where. A high degree of control need not be manifested in actual direct supervision – rather, the question is which party has the ultimate authority over the performance of work.
Investment and reward
A worker who brings his or her own tools of trade or highly specialised skills to a role is more likely to be characterised as an independent contractor than an employee.
Another question is who stands to reap the rewards of the worker’s work. A worker whose efforts benefit the other party – for example, by generating revenue or goodwill – and whose rights to any intellectual property created in the course of the work relationship are limited is more likely to be an employee.
Exclusivity of service
A strong indicator of employment is that the worker in question is not entitled to perform work for others. This may extend to the worker having restrictions on his or her ability to compete with a former employer after the employment relationship has come to an end. While certain types of restraint on a contractor may be warranted in particular circumstances (for example, if the contractor has access to highly confidential information), such restraints are less common than those imposed on employees.
A contractor is usually free to provide services to a number of parties at any one time and, additionally, has the capacity to subcontract work to others.
Whether a worker is permitted to advertise his or her own services independently of his or her putative employer may also be relevant.
Presentation of the business
The way in which a worker is presented to the world at large is a central consideration. For example, the identity of a worker’s employer may be ascertained, for example, from the uniform that worker is required to wear, or the use of business cards identifying the worker with the employer.
Method of payment
While an employee tends to be paid a regular wage or salary, a contractor is more likely to invoice a party for his or her services. Further, an employee’s salary is not usually linked to the completion of particular tasks, while a contractor’s fee for services may be.
GETTING IT WRONG: SOME OF THE CONSEQUENCES
The “sham arrangements” provisions of the Fair Work Act 2009 (Cth)2 (the “FW Act”) have recently been in the spotlight, with the High Court holding in December that Quest South Perth Holdings Pty Ltd (“Quest”) breached the provisions by making certain representations to two employees about the nature of their engagement.3
The two employees in question were cleaners, originally employed by Quest, whom Quest had purported to “convert” to independent contractors through a triangular arrangement with Contracting Solutions Pty Ltd (“Contracting Solutions”). It was held that this “conversion” was never effected, and Quest was found liable for representing to the employees that they were contractors of Contracting Solutions engaged to perform work for Quest, rather than employees employed by Quest itself.
The High Court overturned the Full Federal Court’s ruling4 that Quest had not breached the sham arrangements provisions because the representations it made were not about the relationship between Quest and the employees, but the purported relationship between Contracting Solutions and the employees. The decision reinforced the intention of the sham arrangements provisions to “protect an individual… from being misled by his or her employer about his or her employment status”.5
The significance of the High Court’s decision is that an organisation will be liable for a misrepresentation about the working relationship between a worker who is in truth an employee of that organisation, no matter the “counterparty” about which the representation is made. This risk reinforces the need for organisations to ensure any triangular contracting arrangements entered into are genuine and properly constructed (discussed below).
Liability for entitlements
If a worker purportedly engaged as an independent contractor is actually an employee, he or she will accrue employee entitlements for the entire period of their engagement. Employers may therefore find themselves “retrospectively liable” for those entitlements.
For example, in Fair Work Ombudsman v Crystal Carwash Cafe Pty Ltd (No 2)  FCA 827 (“Crystal Carwash”), the employing entity and two of its senior managers were held liable for underpayment of wages to 359 employees, totalling almost $180,000 over a 10 month period. The workers were purportedly engaged as contractors by ten sham labour hire companies, but were ultimately found to be employees.
Additionally, $90,000 worth of penalties were imposed after the employer admitted the sham arrangement.
Organisations should be aware, however, that liability for entitlements will accrue even when the mischaracterisation of the employment relationship in question is not deliberate (although an “innocent” employer may not be exposed to the same penalty consequences as in Crystal Carwash).
STRUCTURING ARRANGEMENTS PROPERLY: TRIANGULAR CONTRACTING AGREEMENTS
If an organisation reaches the conclusion that a contracting arrangement is appropriate in the circumstances (for example, because the job to be done is of limited duration, is highly specialised or lies outside the organisation’s usual functions), a “triangular”, or “tripartite” contracting agreement is one way of structuring the relationship between the parties so as to limit an organisation’s exposure to claims that the worker engaged is actually an employee.
Triangular contracting arrangements are so named because they involve three parties:
- the Principal (your organisation);
- the Contractor (a second corporate entity); and
- the Personnel (the individual who is to perform the work).
Triangular contracting arrangements which introduce a corporate party (the Contractor) to stand between your organisation (the Principal) and the individual performing work for it (the Personnel) are likely to reduce the chances of that worker being deemed an employee of your organisation, but:
- only if the arrangement is constructed properly; and
- the true relationship between the parties reflects both what is contained in the agreement and the nature of the work undertaken (in contrast to the situation in the Quest case discussed above).
A triangular contracting arrangement will not be effective if it is an attempt to disguise what is really an employment relationship.
1. Re Porter  FCA 226, at .
2. Fair Work Act 2009 (Cth), ss 357-359
3. Fair Work Ombudsman v Quest South Perth Holdings Pty Ltd  HCA 45 (“FWO v Quest”).
4. Fair Work Ombudsman v Quest South Perth Holdings Pty Ltd  FCAFC 37.
5. FWO v Quest, .