Contractor Or Employee - What's The Difference?

Hiring an employee can be a time consuming and expensive process as such businesses now are also considering the option were plausible to engage a contractor to perform the same work an employee would. However, a business wanting to engage a contractor instead of an employee must know the differences between the two and what the Australian Taxation Offices' definition of a contractor and employee is in order to avoid hefty penalties and protect the business from potential legal claims against it. By understanding the distinctions between a contractor and employee, you will know what is best for your business from the outset to maximize the return from the business’s investment in human capital and minimize the cost of the investment.

In general terms, employers need to in addition to paying the wage of an employee need to at a minimum for a casual employee to pay Superannuation and insure employees through Workcover or a Workcover equivalent depending upon which state you employee in. If you choose to hire a permanent employee, then as an employer you will need to also consider holiday and personal leave entitlements, long service leave, pay for public holidays and the cost of processing and keeping the required payroll records for the employee.

If you choose to engage the services of an independent contractor on the other hand and the contractor successfully passes as a contractor using the decision tool listed on the Australian Taxation Office’s website, these same employer expenses and benefits do not apply. You must be certain when engaging the services of a contractor that the individual is actually a contractor because if you fail to classify the individual as an employee when they are an employee and not a contractor, you may have to pay the individual for missing wages, entitlements and superannuation that as an employer you were supposed to pay under government legislation.

Unfortunately, there is no single indicator that will help you identify whether the individual is an employee or a contractor, generally, it depends on the amount of control you exercise over the individual’s job role, if the individual provides their own tools and equipment if the individual has more than one client and if the individual sets their own work hours. Some key rules that determine whether the individual is an employee or contractor are:

  • Does the worker have an Australian business number (ABN)?
  • Is the agreement made with a company, partnership or trust (other than a labour-hire firm) and payments made to that company, partnership or trust for the services of the worker?
  • Does the agreement you have, give the worker the right to pay another person to do the work instead of them?
  • On what basis do you make the payment to the worker?
  • Do you or the worker provide any equipment, tools of the trade, plant or vehicles to perform the work (excluding incidental use)?
  • Is the worker liable for the cost of rectifying any defect in the work performed?

Contractors are paid to deliver a result for the business which contracts them. Contractors may also have control over their own workers which gives them the ability to delegate or sub-contract workers in order to deliver the sought after outcome. A contractor will generally have tools, equipment and any other assets of their own that are necessary for the completion of the work. Commercial risks are taken by contractors as they are primarily responsible for their own work and are liable for the cost of rectifying any type of defect. There will generally also be a written contract between the contractor and the business which contacts them which will generally define a set period for the work to be performed, the cost for the work performed, material to be used, and key milestones which may dictate payment and other terms and conditions.

Meanwhile, employees are primarily part of a business and work in it. The business has the authority to direct the worker as they see fit. An employee cannot delegate or sub-contract their work and cannot pay just anyone to execute the work. Employees are paid based on the activity or item, commission and or time they have worked by submitting a timesheet for the payroll period. Employees are provided with most or all of the necessary tools, equipment, and any other assets that are required in order to complete their jobs successfully. Employees generally receive reimbursement or allowance for any out of pocket expenses in the course of their employment. Lastly, it is the business’s responsibility for the work undertaken by employees as well as any liability or defect that may arise from the employee working on behalf of the business.

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