Fools rush in to sham contracting

Australia's human resource professionals are embarrassed and now pretty fearful after a $3,750 fine was dished out to one of their own for failing to stop a company director from forcing a group of employees to become 'independent contractors'. The HR manager in question says his career has been ruined.

The case relates to the actions of a small finance company in 2007 that found itself in financial difficulty. In order to save costs, the director of the company decided to dismiss employees and re-engage them as 'independent contractors'. He believed he could pay them less and not be required to pay other costs such as payroll tax. The court found that the action amounted to a sham.

Sham contracting is an action under the Fair Work Act. For a sham to be declared, first the alleged independent contractor must be found to really be an employee. Second, the employer must have acted in a reckless manner, aware that the people were still employees.

In this case the company director was found to have initiated and ordered the action. The director and the (now collapsed) company have been heavily fined. Even though it appeared the HR manager was not in a position to override the instructions of the director, the court said that the manager should have at least made efforts to convince the director not to take such action.

This case is contributing to the near hysterical promotion of HR conferences that warn of the dangers of sham contracting. It's combined with the actions of the union movement strongly supported by elements within the Gillard government to suppress independent contractors (Shot by Gillard's red-tape gun, May 12). This is evidenced in particular by the actions of Assistant Treasurer Bill Shorten who is implementing a red tape reporting attack against Australia's 1.1 million independent contractors (Shorten's election gift to Abbott, July 4). The target in our view is to make the use of independent contractors so administratively complex that independent contractors will have trouble finding clients.

The government's sham attack against self-employed people should not, however, be confused with genuine efforts to stop sham contracting. There are without question some people in business who think that if you use independent contractors you can pay them less than employees and not have to pay workers' compensation premiums, payroll tax and so on. Such misinformation has at times also been peddled by some accountants and lawyers. This has always been, and continues to be, wrong.

There is no confusion over who is and is not an independent contractor. The law is clear on the identifiers which we've summarised in our simple check list. We apply a 'swinging pendulum test' that gives further clarity. Confusion happens because businesses cherry-pick from the identifiers, applying some behaviours that reflect employment and others that reflect independent contractors. They create problems for themselves.

And I've found little, if any, knowledge amongst human resource managers about independent contractors. They have been trained in employment issues and only know and understand employment.

Further, just because someone is an independent contractor does not mean that payroll tax, workers' compensation and superannuation do not have to be paid. This is where the law truly is an ass. Each of these payment obligations has extension provisions that pull the use of independent contractors into the payment obligations of the engaging party. The laws vary between the state and federal governments, with different models applying in each jurisdiction.

The laws are so complex that, in the major test case in 1990, the High Court declared that even it could not understand the meaning of the Victorian Workers Compensation Act. The court ruled that the law meant whatever the bureaucrats wanted it to mean. It's in this sort of area that confusion really does reign.

Even so there are clear principles that apply. Being self-employed is entirely an individual choice. It's quite clear. If you sack an employee and require them to continue to work for you as an 'independent contractor' you're a fool. The person is still your employee. If you think that you can pay someone less as an independent contractor than as an employee you're a stupid fool. They are most likely your employee.

Fools take note: the law is in place to catch you. Independent contracting is an enormously satisfying, entrepreneurial and productive way of working. But we're not interested in working for fools.

Ken Phillips is executive director of Independent Contractors Australia and author of Independence and the Death of Employment.