When is your “employment contract” a Sham? - JHK Legal Commercial Lawyers

22 September 2016

When is your “employment contract” a Sham?

The Fair Work Act 2009  (“the Act”) has been implemented to protect employees legal rights of employment and provide strict guidelines for employers to follow with respect to  employee and employer agreements. However, too often than not, employers are found not to have fulfilled their obligations under the Act and have exploited employees rights by way of sham contracting. In some instances, this is not an intentional act by the employer, but rather an act of unbeknownst to the employer. Accordingly, it is essential that employees are aware of their contractual and statutory rights and entitlements with respect to their employment and employers are aware of their obligations under the Act to ensure that their employees are not being exploited through a sham contract.

What is Sham Contracting?

A sham contract is formed when an employer makes a representation to an employee that they are an independent contractor as opposed to an employee. However, the contract that is formed contains all the relevant provisions to that of an employment contract and in essence the employee should be recognised as an employee and receive the benefits and privileges an employee is entitled to  receive in accordance with the Act.  These sham contracts are normally offered by the employer to avoid paying the employee some benefits and entitlements under the Act. However, in some instances, the sham representation may not be deliberate.

The Act prohibits sham contracting and provides for serious penalties for employers who contravene the Act. For any organisation this could include a penalty of up to $51,000.

Under the Act, the employer must not:

Section 357 of the Act

Represent to an individual that the contract of employment is a independent contractors agreement;

Section 358 of the Act

Dismiss the employee to engage the individual as an independent contractor to perform the same work under the Agreement;

Section 359 of the Act

Make a statement, that the employer knows is false, in order to persuade the individual to enter into a contract for services as an independent contractor for the same work performed under the Agreement.

While it is legislatively clear that an employer must not form a sham contract, in some instances, both the employee and employer are unaware that a sham contract has been formed. This however, does not dismiss the liability of the employer for penalties under the Act.

The recent case of Fair Work Ombudsman v Quest South Perth Holdings Pty Ltd [1](“Quest”) found that terminating the employment of an employee and re-engaging them as sub-contractors, through a labour hire business “Contracting Solutions”, to provide the same services of labour, was a misrepresentation of the status of employment  as independent contractors.

In essence, the High Court found that while section 357 of the Act provides that it is a misrepresentation and breach of the Act if an employer makes a representation that an individual is a subcontractor when they are clearly an employee, it will also be considered a misrepresentation if the employer makes a representation to the employee that they are a sub-contractor for a third party. According to the decision in Quest, the employer is in breach of the Act if they misrepresented the employee’s status, regardless of who the employee is contracted by. Furthermore, upon the determination of the construction of section 357 of the Act, the High Court found that Quest   was liable for Sham Contracting.[2]

Who is an employee and who is an independent contractor?

In order for employers and employees to clearly distinguish between employees and contractors, the Fair Work Ombudsmen has created an indicator table of factors that may assist in determining when the individual is an employee or independent contractor. [3]

Indicator Employee Independent Contractor
Degree of control over how work is performed Performs work, under the direction and control of their employer, on an ongoing basis. Has a high level of control in how the work is done.
Hours of work Generally works standard or set hours (note: a casual employee’s hours may vary from week to week). Under agreement, decides what hours to work to complete the specific task.
Expectation of work Usually has an ongoing expectation of work (note: some employees may be engaged for a specific task or specific period). Usually engaged for a specific task.
Risk Bears no financial risk (this is the responsibility of their employer). Bears the risk for making a profit or loss on each task. Usually bears responsibility and liability for poor work or injury sustained while performing the task. As such, contractors generally have their own insurance policy.
Superannuation Entitled to have superannuation contributions paid into a nominated superannuation fund by their employer. Pays their own superannuation (note: in some circumstances independent contractors may be entitled to be paid superannuation contributions).
Tools and equipment Tools and equipment are generally provided by the employer, or a tool allowance is provided. Uses their own tools and equipment (note: alternative arrangements may be made within a contract for services).
Tax Has income tax deducted by their employer. Pays their own tax and GST to the Australian Taxation Office.
Method of payment Paid regularly (for example, weekly/fortnightly/monthly). Has obtained an ABN and submits an invoice for work completed or is paid at the end of the contract or project.

While the above table can provide a good indication as to which category an employee and contractor may fall within, it is important to consider the factors as a whole and not individually in determining the engaging arrangement.

We make note that as there is a fine line as to what would be considered as an employee and an independent contractor. For both employees and employers, it is vital to seek expert legal advice. JHK Legal provides advice as to employment contracts regularly, and you should contact our office for more information.

Author: Hayley Tibbie, Lawyer

Published: September 2016

[1] [2015] HCA 45

[2] Ibid 14-22.

[3] Fair Work Ombudsman, Independent contractors and employees( 2015)