Recruiting staff can be a time consuming and expensive process, with many factors weighing into who to put on and in what capacity. Many business owners struggle with understanding the options of independent contractor vs employee; how the two differ in regards to obligations, costs and benefits; and which one is the best option for both their business and the specific role being filled. Understanding the distinctions between contractors and employees is vital when deciding what capacity to engage staff in for the best outcomes for your business, both in human capital and financially.
Whilst engaging a contractor to do the work required may seem the simplest and most convenient way to get a specific role filled as opposed to hiring an employee, there are a number of differences that business owners must be aware of and regulations that must be adhered to in order to avoid hefty penalties and avoid potential legal claims being made against them. Let’s take a look at the key differences, the benefits associated with each and how to decide which is the best fit for your business.
Employee vs contractor – benefits and rules around each
Employee entitlements and employer obligations
Employment law varies slightly from state to state within Australia, but generally speaking, when engaging casual employees, the employer is responsible at a minimum for paying wages accrued, Pay As You Go (PAYG) tax and Superannuation as well as insuring employees through Workcover or a Workcover equivalent. If looking to engage a permanent part-time or full-time employee, then additional considerations must be made, including holiday, sick and personal leave entitlements, long service leave, pay for public holidays and the additional costs associated with processing, recording and reporting payroll for employees.
If choosing, however, to engage the services of an individual as a contractor, there are a range of factors that must be considered and the contractor must successfully pass as a contractor using the decision tool listed on the Australian Taxation Office’s website. Failure to correctly engage the individual may result in financial loss to your business in the form of missing wages and entitlements that should have been paid if the individual were engaged as an employee under government legislation.
Unfortunately, there is no cut and dry differentiation between whether an individual ought be engaged as an employee or a contractor. Ultimately, the amount of control that you exercise over the individual’s job role, the provision of tools and equipment to fulfil the role, the number of clients or roles that the individual holds and the flexibility of work hours are the key factors that would indicate whether an individual ought be considered an employee or a contractor.
Contractors would generally be able to exercise more control over their role; provide their own tools and equipment to fulfil the role; set their own hours to a degree; and have multiple clients or sources of income. 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.
An employee, on the other hand, would be expected to work rostered hours set by the business owner; would have less control over their role; would have the use of tools and equipment provided by the employer and may work wholly for that employer. 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 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.
There are some additional considerations that are required, for example apprentices, trainees, labourers and trades assistants are always treated as employees; and companies, trusts, partnerships and labour-hire agreements are always treated as contractors.
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?
It’s extremely important to make the right decision between contractor and employee when you’re hiring. If you get it wrong there could be penalties for your business and for the individual. We’ve been providing payroll services to Australian businesses for over 10 years and understand the ATO’s rules around hiring contractors and employees. Give us a call on 1300 728 875 or send us a message and we’ll help you make the right decision.
Paying contractors vs employees
The manner and regularity of payment periods, combined with the way that payments are agreed upon also shape whether an individual is considered to be an employee or a contractor. If the individual is paid a set amount, such as an award rate, hourly or weekly rate, or an annual salary for the time that they work, then they would be considered an employee. Additionally, if the individual is paid a certain price per activity or piece of work, such as commission, they would also be considered to be an employee. If however, the individual provides a quoted price for the fulfilment of a particular product, service, activity or project, and they are paid either in full at the completion of the work or at agreed-upon intervals in the process of work being completed, they would be considered to be a contractor.
Tax and Superannuation considerations
If engaging an individual as an employee, the business owner will be responsible for calculating, recording, reporting and withholding PAYG Tax, and forwarding these monies to the ATO at regular periods. Superannuation is also required to be paid quarterly at a minimum for eligible employees and any fringe benefits tax that is applicable must also be calculated, reported and paid as required.
If engaging an individual as a contractor, they are responsible for looking after their own tax, unless they have not provided an Australian Business Number (ABN) to the business owner, or they have voluntarily entered into an agreement to have tax withheld on their behalf. There are also no fringe benefit tax obligations for individuals engaged as contractors, although there may be some Superannuation obligations dependent on the nature and exclusivity of the work conducted.
The Australian Taxation Office has a range of factsheets available as well as this contractor vs employee calculator Australia available to help businesses calculate what obligations are in place when dealing with both employees and contractors.
End of year reporting for employees vs contractors Australia
For most businesses, the majority of end of year reporting for employees will be done through Single Touch Payroll and the accounting software that is used by the business to process payroll. Single touch payroll has evolved from reporting the gross amount paid to employees (Phase 1) to a comprehensive report that is fairly automated and reduces the need for employers to report to multiple government agencies or to provide payment summaries to employees at the end of financial year.
When it comes to contractors, however, there are a few different reporting options, depending on the industry that the contractor is working in. For those in the construction, cleaning, courier/freight, information technology and security industries, Taxable Payments Annual Report (TPAR) is the avenue for reporting the payments made to contractors for the year. Through the lodgement of TPAR, contractor compliance is observed by the ATO. There are a range of different ways to submit your TPAR, both online and on paper, with a more comprehensive outline of what TPAR is and what is involved available here. For other industries, Single Touch Payroll may be the best way to report payments to contractors.
As you can see, the decision to engage contractors vs employees in your business is not always a straight forward and clear cut decision. Both have their benefits and challenges. By understanding what is involved for the business owner, you can make an informed decision and maximise the benefits for your business, whilst still ensuring that you remain compliant with reporting and are not liable for unforeseen penalties and outlays. If you’re still not sure on which approach to take, give us a call on 1300 728 875 or send us a message for an obligation-free consultation.