Employee or Contractor - Understanding the Basics

The Employee or Contractor question is a hot topic and It's something I get asked about all the time. I think the reason is that it's such a tricky area. It's a bit of a grey area. People interpret what they read very differently and possibly don't have all the information. It is confusing because there are a few different legislations in play here, with tax law, workers compensation, and the Fair Work Act and interpreting how the rules apply can be complex and people can see one piece of advice and they think they've got all the answers, and they simply don't.

Let's look at, first, what is a contractor versus what is an employee.

Contractor or Employee?

There is no one legal definition, which is why there are so many questions and why business owners can get confused. There are subtle differences when we're talking payroll tax, Workers' Comp, superannuation, and Pay As You Go Withholding which is part of the problem. My view is a contractor offers a business the ability to turn off and, on its capacity, and they are non-core skills to enable the completion of projects. A contractor is a business or individual that another business might get in to assist with the productions of their goods or service that is not an employee. A contractor will also usually negotiate its own fees, payment terms, working arrangements, method of work, have multiple clients at a time, et cetera.

I think one of the fundamental ways that I talk to people about understanding whether someone is, in fact, a contractor or employee is understanding the element of control of the work and responsibility or ownership of the work. Who has ultimate responsibility for the work that's completed and who has control over how, when, and where the work gets completed? If that's you, as the business owner ... if you're controlling who's doing work, how they're doing it, when they're doing it, where they're doing it, and liability sits with you. Alternatively, if you're not controlling how, when, and where the work is done and the liability sits with the other individual organisation, it's most likely, in most cases, a contractor arrangement.

If it looks like and acts like a duck, it's probably a duck. (Even if you say it’s a chicken)

Just because someone says they're a contractor, does not mean they're a contractor. Let’s look at an example. If a job runs over time and the worker is being paid a day rate and he or she just goes out and does another four or five days and continue to get paid for those four or five days, well you're leaning towards, all other things being equal, being an employee. They're just getting money for their time or their labour. Whereas, if it's here's the job, it's $20,000 to install that retaining wall. I don't care how you do it. If it gets done on Friday and you get a phone call on Monday saying it's falling down, well whose job is it to go and fix it and at whose cost? The risk of the job being profitable, but also the responsibility for repairs and those sorts of things is another indicator of are you a contractor or are you an employee. When looking at work arrangements you need to look deeper at things like control of work, the terms of the agreement, provision of equipment, and who bears the risk.

Ask the right question

For many businesses that may already have people in place that say they're contractors, a good way to get a gauge of what the real arrangement is could be to ask this question - are you being paid an hourly rate to come in and fix this stuff or can I expect you to go and do it on your own time and cost?" If they reply, well, no, you've got to pay me to go out and fix that then you probably have yourself an employee. If they can plan the work in their own time and cost, then more than likely they are a genuine contractor. Beware that it can be much more complex than this and it is always worthwhile to speak with a professional, an Accountant, or HR professional, to work through the unique aspects of your situation.

So, your contactor is an employee, what do you need to do?

There are a couple of aspects to consider when defining your workers. Firstly, if you have an employee, you will be required to withhold tax, pay superannuation and other obligations such as workers compensation. Secondly, if do get it wrong and treat a genuine employee as a contractor there may be penalties and charges that could apply. It can be expensive to get it wrong, particularly if these penalties and charges are back dates for the whole period of the arrangement.

Whether or not you have engaged an employee, or a contractor is a common issue that business owners often face, and getting it wrong can be costly. The Australian Tax office has a handy decision tool that can be helpful – How to work it out: employee or contractor | Australian Taxation Office (ato.gov.au)– or chat with your Accountant to get all the aspects of the relationship clear upfront so that if you do have obligations as a result of the arrangement you can get it right before it starts to avoid future complex outcomes.