An issue which confronts, and often confuses, businesses and professional advisors alike is the question of 'who is an employee and who is not?'
Why it matters to know!
Most businesses engage not only employees but also contractors, consultants and other service providers. The engagement of workers will give rise to obligations for one or more of PAYG withholding, payroll tax, workers' compensation, superannuation and fringe benefits tax.
The question is, what obligations, and when?
In our experience, this is one area where the rules are not clearly understood, largely due to their complexity and the fact that there are significant and material differences in the rules applying to each of the obligations. As a result, this can lead to substantial exposures for employment taxes.
When considering a worker's status, the starting point is to determine the true nature of the relationship between that worker and the party requiring their services. That is to say, is the relationship one of employer and employee (master/servant), or principal and contractor?
A common misconception is that if the worker quotes an ABN and provides an invoice for services rendered, they are a contractor and not an employee. This is far from correct, as we have found many instances of workers purporting to be contractors who are actually employees at common law.
Whilst at either end of the spectrum it is relatively easy to determine the distinction between an employee and a contractor, there is considerable middle ground where the issue becomes very blurred. Indeed, the ability to distinguish between the two is becoming increasingly more complicated due to changes in modern working conditions, such as performance based contracts, flexible working arrangements and the ability to work from home or remote locations.
The only conclusive arrangement is where the worker is legitimately engaged via an interposed entity, for example, a company or a trust. If so engaged, the worker is not an employee although, obligations may still arise in relation to some employment taxes. However, if a worker is engaged via an interposed entity, it is imperative that the arrangement be appropriately structured to ensure it is not a sham (that is, whilst on the surface it purports to be between the interposed entity and the principal, in reality the worker is engaged directly by the principal).
If the worker is not engaged via an interposed entity, you must consider a number of factors, or indicators, to determine if they are an employee or a contractor. These include:
- The extent to which the principal can control and direct the worker.
- The nature and terms of the contract (written or verbal).
- Whether the worker is engaged to produce a result or on an ongoing or indefinite basis.
- Does the worker provide any materials or equipment under the contract?
- Does the worker have the power to delegate or refuse work?
This list is not conclusive as there are numerous other factors which may be relevant. Furthermore, no one factor is determinative and it is a matter of assessing all facts in relation to an engagement to determine the correct characterisation of a worker.
Deciding that a worker is not an employee is not the end of the matter. Most employment taxes have extended their application to take account of the use of contractors and in certain circumstances obligations will arise. The obligations for contractors are briefly summarised as follows:
- PAYG Withholding - generally, an obligation will only exist for a principal where an ABN is not quoted or a voluntary withholding arrangement is in place.
- Superannuation Guarantee - an obligation will exist where a contractor, who is a natural person, is engaged wholly or principally for his or her labour. Generally, this will arise where the worker is engaged on an ongoing or indefinite basis, must perform the work personally (i.e. cannot sub-delegate) and is paid an hourly rate. An obligation will not arise if the worker is engaged via an interposed entity, is paid for a result or has the genuine ability to delegate his or her work.
- Payroll Tax - the tax provisions have the ability to capture contractors no matter whether they work as natural persons or via interposed entities. The legislation provides that payments to contractors will be subject to payroll tax unless an exemption applies. The typical profile of a contractor usually caught under the provisions is where the contractor works predominantly for the same principal during the year, is engaged mainly to provide labour (whether physical or intellectual) and only one person actually performs the work.
- WorkCover (NSW*) - the contractor provisions mirror those for payroll tax. However, a common misconception is that the contractor provisions do not apply if the worker is engaged via an interposed entity and is registered for WorkCover in their own right. This is not correct. The provisions can apply to such contractors! In addition to the provisions which mirror payroll tax, WorkCover has additional provisions which can apply to contractors who are natural persons and who are captive to the one principal for a period of time during the year.
(*Due to the complexity of the rules across all States, it was only possible to discuss the NSW provisions in this article.)
The law involving the distinction between employees and contractors, and the extended provisions which can deem legitimate contractors to be caught for employment taxes, are both complex and confusing. It is an area that warrants specialist assistance particularly for businesses which regularly use large numbers of workers under varied contractual arrangements. Timely assistance could avoid substantial exposures that could otherwise jeopardise businesses if not addressed appropriately.
Article reproduced courtesy of Pitcher Partners, Critical Point Newsletter, Spring 2010