How you hire or engage your workers can expose your business to tax and employment risks. The nature of those risks will change over time as your business evolves and the courts move the goalposts as to who or what is an ‘employee’.
Typically, the choice between whether the arrangement is one of employment or contracting. Employment provides and requires employee entitlements to be paid. In contrast contracting offers the worker the chance to be engaged on a contractual basis, usually in an attempt to split their income and/or reduce their tax burden. Engaging on a contracting basis also reduces the financial and compliance burden for the business that engages the contractor.
If you treat a worker as a contractor even though they are actually an employee, you will be exposed to risks for unpaid employee entitlements even if the worker wants to be treated as a contractor. Even if the arrangement has been ongoing for many years, sooner or later, in our experience, often when the working relationship breaks down, you will be at risk for unpaid superannuation and employee entitlements.
Here are our top tips when considering how you engage your workers.
1 – If you control the way in which the worker performs their work – known as a contract of service – the worker will be an employee. Ordinarily, if you expect your worker to take instructions, work in a ‘5 day a week’ environment from 9 to 5 and maybe wear a uniform, your worker will almost certainly be an employee.
2 – An employee is normally easy to spot. The challenge becomes more difficult when the employer or the worker (or sometimes both) wants their work to be classified as contracting and some of the features mentioned above are present. The courts have outlined numerous factors — the multifactor test — to assess whether your worker is an employee or a contractor at law. The ATO also has a tool that applies a version of this test. But, beware, the tool is not comprehensive and should only be used as a guide.
3 – If you are paying a worker for a ‘result’ or an outcome — such as to build a house, or to paint a building — and they supply their own tools, arrange insurance, can delegate the work, the worker is more likely to be a contractor.
4 – The wording of the contract with the worker is important. The ATO or a court will always start with the contract and see what rights and obligations are imposed on you and the worker to initially assess whether the worker is an employee or a contractor.
5 – Even more important than the contract, is how the parties act. It is the behaviour of the parties that will be more determinative than the words on the contract. If the contract expressly refers to a ‘contracting agreement’, but the worker turns up to work at the premises, wearing a uniform and works the same standard hours every day, they are most likely to be an employee despite what is in the contract.
6 – You will need to review the arrangement periodically. Tax, superannuation and employment law do not define an ‘employee’. Rather that is left to the courts, which means that the nature of who or what is an employee can change over time. In addition, the behaviour of people can change over time. An arrangement that starts off as a contracting arrangement can morph into an employment arrangement as parties forget the terms of their initial agreement and start behaving like their relationship is that of an employer/employee.
7 – As an employer, you’ll be responsible for withholding tax/PAYG on the payments made to your employee, paying superannuation and payroll tax. Employees also benefit from leave entitlements (annual, sick and long service). Benefits provided to employees may be subject to fringe benefits tax.
8 – Ordinarily, in the case of a contractor, you won’t need to withhold tax on the payment you make to a contractor nor make provision for leave entitlements. However, superannuation and payroll tax may apply depending on the nature of the services the contractor provides. The position gets murkier if the contractor provides their services through a company or trust.
9 – Superannuation must be provided to all employees under an arrangement whereby the person is hired principally for their labour. This is the outcome where the worker is engaged personally, whether or not they quote an ABN. If the worker is engaged through their company or trust, this may break the nexus for you to pay superannuation (although their company/trust may need to pay them superannuation) unless the arrangement is a sham and the entity is merely used to collect income and does little else.
10 – Payroll tax must be paid whether you engage an employee or a contractor. It does not matter that the contractor quotes an ABN or operates through an entity. Payments to contractors can fall outside payroll tax if an exemption applies. Common exemptions include where the business only engages the contractor for less than 90 days in a financial year or the labour aspect of the contract is ancillary or secondary to the supply of materials or goods.