Contracting services has historically been a popular alternative to the traditional employment relationship for businesses for a number of reasons. With the increasing complexities continually facing businesses having to deal with FairWork and keeping on top of their payroll obligations it is easy to see why the contractor arrangement can be an attractive option.
The ability for a business to divest itself of the responsibilities associated with employing staff and instead contracting individuals, either directly or indirectly via some form of structure, in order to remove the need to accrue for entitlements, follow payroll awards, insure for work cover and comply with reporting obligations such as Single Touch Payroll (STP) simplifies things for the business but is not an approach that the ATO favours and it is attracting attention. This is where the challenge of answering the contractor or employee question comes into play.
To differentiate between an employee and a contractor there are various factors that need to be considered. At a basic level, an employee is employed by a business to work for a salary or wage whereas a contractor provides a service or form of labour pursuant to an agreement or contract in place.
An employer is responsible for remitting directly to the ATO the various tax obligations for its employees. A business on the other hand will generally pay a set fee to a contractor and the contractor is then responsible for attending to their various taxation obligations.
A business cannot simply dress up the arrangement to make it appear there is a contractor relationship in place. Common measures that have been previously adopted to try and show this relationship include the following but these factors alone are unlikely to be enough to support a true contractor arrangement exists.
- Contractor has an ABN
- Registered for GST
- Operate with business name
- Issuing a tax invoice
- Enter into a written contract titled ‘contract arrangement’
What does a contractor arrangement look like?
The ATO recommend that you apply the common law test which is a ‘multi-factor’ test to determine whether your arrangement is that of an Employer/Employee or a Contractor. Some of the factors that can be considered to help assess the situation include:
- Degree of control over how work is performed
- Hours of work
- Expectation of work
- Who carries the risk to rectify errors
- Who provides the tools and equipment
- How is payment made – based on result or per hours worked
Generally where it can be shown that the person can set their own schedule, choose what jobs they do, use their own resources including tools and people, are paid based on providing a result or output as opposed to the number of hours worked and are responsible for rectifying any errors then a Contractor arrangement is likely to be supported.
If on the other hand the person is told each day/shift what they will be doing, they are paid based on the number of hours they work, they can call in sick and not have to provide an alternative resource to get the job done and they don’t get a choice as to which jobs they do or don’t do then an Employer/Employee relationship is likely to exist.
Attached below is a link to the ATO website which has a tool that can be used to assist with determining between an employee or contractor relationship for tax and super purposes only.
Employee/contractor decision tool: https://www.ato.gov.au/Calculators-and-tools/Host/?anchor=ECDTSGET&anchor=ECDTSGET/questions/ECDT#ECDTSGET/questions/ECDT
As mentioned, this tool is only designed for taxation and superannuation purposes as several other legislations exist which may result in a different outcome to what has been determined from the tool above. Some of these include:
- Payroll tax – this varies between different states and territories
- Workers compensation – this varies between different states and territories
Why is it important to differentiate between an Employee and a Contractor?
Generally, the Employer/Employee relationship is much more heavily regulated than the Contractor relationship. If a business were to incorrectly classify an individual as a contractor you could find yourself at risk to various penalties, taxes and other criminal charges. As such, it is important to ensure that you put the right arrangement in place because it is the business that will have obligations to make good on any taxes and superannuation that should have been paid if a Contractor arrangement is found by the ATO to be an Employment one instead.
Given the complexities associated with the contractor versus employee differentiation as outlined above, consideration should be given to seeking formal advice before proceeding with the establishment of an arrangement. You can contact the team at Davidsons for guidance should you be thinking about putting this arrangement in place or should you be concerned about any existing arrangements that you think should be reviewed. Contact us on 03 52216399 or at firstname.lastname@example.org.
Disclaimer: this information is of a general nature and should not be viewed as representing financial advice. Users of this information are encouraged to seek further advice if they are unclear as to the meaning of anything contained in this article. Davidsons accepts no responsibility for any loss suffered as a result of any party using or relying on this article.