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Contractors vs. employees: A guide to building a compliant remote workforce

With 47 percent of Australians prioritising flexible work arrangements over a pay raise, businesses are facing pressure to meet the demands of the tightening workforce.

Flexible working has become an increasingly common practice across businesses, expanding opportunities to engage with talents across geographic locations. 

Flexible arrangements have, however, blurred distinctions between worker classifications, increasing risk of penalties for businesses employing remote workers. Previous guidelines around working hours and location are less clear in an era of increasingly common practices including remote working and flexible hours. 

Tightening the terms on classification

Increasing misclassification has prompted an increase in government regulation around worker classification, such as recent reforms to Fair Work legislation to improve classification of ‘gig economy’ workers. The regulatory changes make it increasingly important to correctly identify and distinguish whether individuals are employees within the business, or external contractors. 

Making the distinction

By definition in Australia, independent contractors are workers who provide contracted services to another party. Several factors impact the nature of an employment relationship, with key distinctions typically including expected working hours, work location, payment structure, and freedom to pursue other jobs. Employees typically must adhere to employment conditions set by the employer, including working within designated business hours, in a location approved by their employer, whereas self-employed contractors often work more flexible hours to a set output deadline. 

Compensation also varies between employees and contractors, with employees paid on a regular payroll cycle, generally with tax withheld by their employer. Their remuneration is agreed on at the start of their employment, to either a monthly salary or per-hour wage, and includes access to employment benefits such as paid holiday. Contractors, on the other hand, invoice the business that engaged their services, and are paid without tax withholding. 

Finding the line

This means that the nature of a relationship can also change over time, as conditions of engagement morph. For example, an independent contractor may be engaged in a longer-term working relationship, which then requires a reclassification of their employment nature. 

The shadow over contractors is further obscured by legislation, which varies between countries and can cause confusion for employers engaging contractors remotely across national borders. As a result, companies may feel the need to overcorrect by avoiding working with any contractors at all. 

The business of contracting

Contractors are engaged through their own business entity, which operates as either a sole trader or incorporated legal entity. 

Most independent contractors in Australia opt for the sole trader format, which enables them to maintain sole ownership of the business under an Australian Business Number (ABN). The simple business structure and relatively easy operating requirements enable contractors to maintain their independence while contributing to a larger project, with payment structures in this situation serving as a key indicator for correct classification. 

To mitigate risks when working with contractors, it’s advisable to ensure they maintain business insurance, as the personal liability contingencies of their sole trader leave both parties responsible for any faults. Ensuring they have a valid ABN is also essential to avoid potential payroll risks when paying invoices. 

Read the fine print

The key to differentiating between employees and contractors lies in the terms of their contract. Particularly when operating in non-native jurisdictions, contractual terms may leave a business open to misclassification risks in line with local laws. Contracts localised to Australia should equally protect the rights and interests of the business entity and the contractor or employee engaging with the business.

Contractors can negotiate contract terms under the Independent Contractors Act 2006, which includes protections around contractors’ rights during their engagement with a company, and the freedom to offer their services to other organisations. 

Mistaken (mis)classification

In some cases, businesses seeking to avoid providing legally obligated benefits to employees may misrepresent the employee’s relationship to the business as a contractor. Known as ‘sham contracting’, this arrangement is illegal in Australia and can incur significant penalties of up to $469,500 for corporations. 

While there may also be cases where the misclassification is accidental, the responsibility still sits with the company to ensure that they’ve correctly classified an employee, with penalties still applied if the company should have reasonably known a contractor was misclassified. 

How to avoid misclassifying workers

The answer for businesses engaging with contractors lies in being proactive about avoiding misclassifying workers as contractors when they work as de facto employees. This means understanding the proper classification of workers under the applicable labour laws, and working with their contractors to ensure a positive and compliant contractor-business relationship that is mutually beneficial. 

When engaging with a global workforce, employers might gain security or guidance on employment classification by working with an employer of record, which can handle payroll, benefits, taxes, and compliance for international team members. For companies with more resources, or that are looking to establish themselves in a location long-term, creating a local entity in the country might be an option to maintain a level of control. 

For businesses looking to harness the advantages of a global talent pool, embracing contractors in their workforce is a strategic move. The flexibility, agility, and fresh perspectives that contractors bring can invigorate a company’s operations and keep them competitive in an ever-changing market.

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Pedro Barros

Pedro Barros

Pedro Barros is the General Manager Contractors, at Remote

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