The Importance Of Knowing The Difference Between An Employee And A Contractor

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Do you know the difference between an employee and a contractor?

As the owner of a small business or startup, it is really important for you to know the difference between an employee and contractor, as getting this wrong might have huge consequences for your company.

A Federal Court case involving Foodora is a good example of this issue.

The Fair Work Ombudsman launched a case against Foodora for “sham-contracting”. Basically, the Fair Work Ombudsman is arguing that Foodora had wrongly classified some of its employees as “contractors”.

The Fair Work Commission found that he was an employee, and therefore entitled to (among other things) make claims on the basis of unfair dismissal. This was mainly due to the nature of their work being extremely similar to that of a casual employee, and their nature of their tasks being largely controlled by Foodora (such as setting their hours of work).

To avoid these legal consequences for your small business or startup, let’s go through the factors that affect the classification, as well as the practical differences you need to be aware of the two.

Factors That Affect The Classification…

Degree Of Control Over How Work Is Performed & Hours Of Work

If your worker performs tasks under your direction on an ongoing basis, they are more likely to be classified as an employee.

If they are provided with autonomy and can control how the work is completed themselves, they are more likely to be an independent contractor.

In the Foodora case, Fair Work’s evidence points to Foodora having significant control when it came to the services performed by their workers.

The company controlled shift times, by setting start and finish times, locations for delivery and a reward system which saw workers paid more when they delivered during certain times.

Unlike independent contractors, when delivery workers have little to no control over their schedules it can indicate that they are employees.

Expectation Of Work

An employee usually has an expectation that they will have ongoing work.

Whereas, a contractor is engaged for a specific task for which they have a particular skill set for.

The company provided their workers with set shifts via an app. Though the days and times of work varied each week, Fair Work has argued that this looks like a casual employee, employed to complete work for a specific task or period.

The lesson here is that, if you want to hire people as independent contractors, you need to make it clear to your worker whether the tasks you require of them will be ongoing or just a one off.

Ignoring this might place them under the assumption that they are in fact an employee, and not an independent contractor.

Tools, Equipment And Uniform

If you are providing tools and equipment to your workers, they will be classified as an employee.

However, if the worker uses their own equipment, they are likely to be an independent contractor.

Something as simple as having your company logo printed on the equipment used by the worker, has the potential for an independent contractor being classified as your employee.

Even though most workers used their own bike when making deliveries, the storage box attached to his bike was labelled with the company’s logo.

Foodora workers also wore branded t-shirts when on the job, supporting the position that they are employees rather than independent contractors. This is because the t-shirt could be considered as part of their uniform, associating them directly with their employer.

Method Of Payment And Leave Entitlements

Regular payments and leave entitlements may be an indicator that the person is an employee.

Independent contractors have their own ABN and will give you an invoice once the work you required of them is completed. They also don’t receive paid leave.

That being said, just not paying them regularly and giving them no leave entitlements doesn’t mean that they’re an independent contractor.

Similarly, just because you pay through an ABN, doesn’t mean the worker will be seen as an independent contractor.

These things need to be considered with the other factors mentioned above.

Practical Differences – Risk, Superannuation And Tax

As an employer, you will be held legally responsible for all the actions your employees perform under their contract.

Whereas, an independent contractor will typically be liable for inadequate work or any work related injuries.

It is for this reason that independent contractors will often have their own insurance policy.

Super is another thing to consider. You must pay superannuation contributions for employees. For independent contractors, however, there are limited circumstances under which you are required to pay them superannuation.

For example, you’ll need to make super contributions to contractors if you pay them:

Under a contract that is primarily for their labour
For their skills (in other words, it doesn’t rely on them achieving certain results)
To perform the work set out in their contract

A similar situation applies for tax.

As an employer, you have an obligation to withhold PAYG tax from the regular payments made to your employee.

Whereas, a contractor will manage their own tax affairs.

Foodora made no superannuation contributions and did not deduct income tax. Since the Foodora workers are classified as employees, Foodora is now liable to repay these contributions.

You can see how an incorrect classification can quickly add up and be a significant financial risk for your business.

Terms Of The Contract

A key factor in determining whether you’re an employee or contractor is the contract you have in place. Usually, your agreement should set out some clear terms around your arrangement, and this will be the main thing that the court will look at.

More specifically, they will have to decide whether your contractual terms permitted or restricted you from performing work with other customers or businesses. If your contractual terms prohibited you from engaging with other clients for services, then you’d likely be considered an employee.

If your contract included no such restriction, you’re likely to be considered a contractor.

This rule was set out in the recent cases of ZG Operations Australia Pty Ltd v Jamsek, and Construction, Forestry, Maritime, Mining and Energy Union v Personnel Contracting Pty Ltd. The rules in this area of employment law are subject to change over time, so it’s important to keep up to date with how the law distinguishes between employees and contractors.

What To Take Away…

Knowing the difference between an employee and contractor is essential for any small business or startup owner.

It plays an important role when hiring people and defining their obligations as well as your responsibilities to them.

If you’re unsure of whether your workers are employees or contractors, do not hesitate to get in contact with us, we are here to help!

Esha Kumar

Esha is a law graduate at Sprintlaw from the University of Sydney. She has gained experience in public relations, boutique law firms and different roles at Sprintlaw to channel her passion for helping businesses get their legals sorted.

Tomoyuki Hachigo

Tomo is the co-founder of Sprintlaw and a commercial lawyer with a broad range of legal experience. Before starting Sprintlaw, he was an M&A lawyer at a top-tier law firm advising businesses of all sizes from large corporates to startups.