Not so long ago, it was common to hear stories about workers quitting their job, forming a company and being hired back as a contractor at an exorbitant hourly rate.
But lower personal tax rates and legal changes to stop the alienation of Personal Services Income (PSI) have made this an idle dream for most people.
Nowadays the change in status from employee to contractor is more likely to be driven by business owners who want to lower costs, increase flexibility and minimise their tax and super obligations.
However determining whether someone is a contractor or employee is not as straightforward as it may seem, even if a signed contract is in place and the payments are made to a registered Australian Business Number (ABN) holder.
For a start, there are some workers who are always treated as employees – e.g. apprentices, trainees, company directors, labourers and trades assistants.
For others, it really comes down to the specific terms and conditions under which the work is performed. In broad terms, employees work in someone else’s business while contractors run their own business.
The Australian Taxation Office has highlighted six factors that it uses to decide if a worker is an employee or contractor.
|Ability to sub-contract and delegate||The worker cannot sub-contract or delegate the work and they cannot pay someone else to do it.||The worker is free to sub-contract or delegate the work and they can pay someone else to do it.|
|Basis of payment||The worker is paid either|
- for the time they worked,
- a price per item or activity, or
- a commission.
|The worker is paid for a result based on the quote or terms they provided.|
|Equipment, tools and other assets||The business provides all or most of the equipment, tools and other assets required to complete the work, |
- or -
The worker provides all or most of the equipment, tools and other assets required to complete the work, but the business provides them with an allowance or reimburses them for the cost of these assets.
|The worker provides all or most of the equipment, tools and other assets required to complete the work.|
|Commercial risks||The worker takes no commercial risks. The business is legally responsible for the work performed by the worker and liable for the cost of rectifying any faults or defects.||The worker takes on commercial risks, is legally responsible for their work and liable for the cost of rectifying any faults or defects.|
|Control over the work||The business has the right to direct the way in which the worker performs their work.||The worker has freedom in the way the work is done subject to the specific terms in any contract or agreement.|
|Independence||The worker is not operating independently from the business. They work within and are considered part of the business.||The worker operates their own business independently and performs the services specified in their contract or agreement. They are free to accept or refuse additional work.|
There is also an online decision tool which can be found here.
You could be missing out on superannuation
The distinction is particularly crucial when it comes to superannuation guarantee entitlements. In Superannuation Guarantee Ruling (SGR) 2005/1, the ATO devotes 22 pages to the definition of an employee and highlights some key decision criteria.
- At a general level, the question of whether or not someone is an employee is to be determined by ‘the totality of the relationship.’
- The definition of employee also extends to ‘a person who works under a contract that is wholly or principally for the labour of the person.’
- Where the terms of a contract indicate that
- the person is principally remunerated for their labour and skills,
- must perform the work personally (i.e. no right to delegate), and
- is not paid to achieve a specified result,
then ‘he or she will be an employee.’
- A person who holds an ABN may still be an employee for superannuation purposes.
- A contract that describe the work relationship as that of principal and independent contractor will not be valid if it ‘contradicts the agreement as a whole.’
- If the underlying reality of the relationship is one of employment, the parties cannot alter it by’ simply giving it a different label.’
The Ruling quotes Justice Gray in Re Porter: re Transport Workers Union of Australia as follows:
…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.
The bottom line is that contracts that seek to change the status of a worker from an employee to that of an independent contractor are likely to be ineffective when true nature of the relationship has not changed.
Workers who are in this position should seek qualified legal advice because they may be missing out on superannuation entitlements worth thousands of dollars each year.
Further information is available from: