Independent Contractor Vs Employee

Written by:
Stephen Punter

Note: This article is written in September 2020 – watch out for changes being considered by the current Labour Government which, if enacted, will give Independent Contractors more ‘employment-related’ rights, which may make using them less attractive.

So, who cares about the difference between employees and Independent Contractors?

Well, here’s some people who do:

Employment:

Employment Relations Authority (‘ERA’)
Employment Court (‘EC’)
Mediation Service
Employment Lawyers and Advocates

Tax:

Inland Revenue Department

Financial:

Banks (for mortgage eligibility)

Insurance:

For public liability cover and professional indemnity

All of them have an interest in whether or not an individual is an employee or an Independent Contractor.

So what’s the difference between the two?

Employees get:

The protections and benefits afforded by employment law, including (for example):

Four weeks paid annual leave (minimum)
Public Holidays
Sick leave
Bereavement leave
A fair disciplinary process
Training & development
A degree of certainty about their employment
Regularity of work, meaning regularity of income
Access to the employment law system (mediation, ERA, EC)
Redundancy process provisions and (for some) redundancy compensation

These benefits apply to all full-time, part-time, or fixed term employees (‘casuals’ only get some of them).

Independent Contractors get:

None of the above, which is why business owners are tempted to use them.
Independence, which for many individuals means ‘freedom’.
Choice, of when they work, and who for.

The employment law system and Inland Revenue have together developed a series of ‘tests’ to be applied in determining who is an employee, and who is an Independent Contractor.

The tests aren’t absolute – the relationship might fail one test but be correct for the others.

It’s a ‘weighting’ game.

1. Intention Test

What did the two Parties freely agree to at the beginning, what did they want the relationship to be? What documents exist that prove that both Parties understood clearly what the arrangement was to be and clearly expressed a wish that this be an Independent Contractor relationship? I use a ‘Memorandum of Understanding’ that addresses all five of the ‘tests’. Be aware that the ERA/EC/IRD will overlook documentary evidence in favour of the ‘reality’ of the situation. So just because you both agree, doesn’t mean the tests are satisfied.

2. Control Test

How much ‘control’ does the business owner have over the work the individual does? Does the owner direct when and how things are to be done?

If there is a high element of control, this indicates ‘employee’.

3. Independence Test

To what degree is the individual free to choose how they want to do the job – do they determine the methods and processes without much involvement from the owner? Do they just arrive at work and get on with it? Can they decide not to work today? Can they send another person along to do the work for them? Can they leave one business at 2pm and go to another business for the rest of the day? A high level of independence indicates ‘Independent Contractor’.

4. Fundamentals Test

Is the individual clearly in business for themselves – do they advertise their services, do they have other businesses that they provide service to? Do they get income from several businesses (i.e. a contractor) or just one (an employee). Do they have an investment in significant capital equipment – like a logging truck – or is their only tool a lap-top? In the event of a mistake requiring re-work, do they have to fix it at their cost (i.e. contractor)?

Are they performing a set of tasks commonly done by employees in the business? If so, why is this individual a Contractor?

5. Integration Test

How does this individual ‘fit’ into the business? ‘tightly integrated’ means that they are doing work that is highly important, or a key role, where their sudden absence would be a problem. If they decided to stop providing their services, what would happen? If the business came to a halt, then they are tightly integrated and more likely an employee.

(If you’ve noted that there is a lot of similarity and cross-over between tests 2 and 3, you’re right.)

So what happens if you get it wrong?

Well, both parties may suffer from a mistake.

In the event of trouble, the business owner may suddenly find that either the EC, the ERA or the IRD have determined them to be an ‘employer’ and the Independent Contractor to be an ‘employee’. This is where the ‘fun’ starts. For example:

An Independent Contractor you decided to just stop using, goes to a lawyer who puts up a case that they were really an employee; this means they were eligible for many of the benefits in the above list, including annual leave (calculated for however long they were with you) and a fair disciplinary or performance management process – so you’ve now got a Personal Grievance on your hands for ‘unjustified dismissal’ which might cost you a lot of money in compensation for ‘hurt and humiliation’ and arrears of ‘wages’. The IRD also have an interest in that PAYE should have been paid (for however long etc).

The complainant doesn’t have it all their way either – no doubt the Independent Contractor has been claiming GST, and operating costs and expenses against income tax. That all has to be reversed. It really is a very messy business, and an expensive one for the business owner.

OK, so what does all this mean?

Just because someone says they are an Independent Contractor does not mean they are one.

Just because you sign documents together saying they are an Independent Contractor does not mean the relationship is that of an Independent Contractor, if the reality of the situation fails the tests.

A person who starts as an Independent Contractor may, in reality and over time, become an employee if their situation changes.

Summary

Our employment law system in NZ – and Unions – want people to be employed, and in ‘proper jobs’, preferably full-time and permanent, with all the protection for the worker that goes along with that. Left-leaning political parties influence law to achieve that.

Independent Contractors have very little protection in employment law. However, they are free to work wherever, whenever and for whoever they like. For many this is the main attraction, and they either don’t want or don’t need the protection of employment.

The ‘elephant in the room’ is the suspicion that business owners want to use Independent Contractors so that they can avoid the responsibilities of being an employer. Unions see this as exploitation of the worker. There have been test cases over the years against Courier companies (for example), because although the drivers are supposedly Independent Contractors and have to buy their own van, they then have to sign-write their vehicle in the company’s colours and logo, work the hours the company directs, wear the company’s branded uniform, are given specific geographical areas to operate in, and are not allowed to carry parcels for any other company. How many ‘test fails’ can you see?

In 2018, Southern Taxis (Christchurch) had to pay $97,753.05 in arrears to its drivers who it had treated as Independent Contractors when in fact they were employees.

Earlier this year (May 2020) Parcel Express fell foul of Chief Judge Christina Inglis who determined that one of their ‘Independent Contractors’ was in fact an employee. Although her judgment was limited to just that one person (not all Parcel Express drivers), it is considered a landmark case and has probably opened the door for other actions.

LSG SkyChefs were using a labour hire company which in turn used workers who they considered Independent Contractors. It went right up to the Court of Appeal, who determined that the contractors were in fact employees of LSG SkyChefs. For those businesses using labour hire companies, watch out for test cases of the new Triangular Relationships Act.

In the UK they have already moved to create a classification of ‘Dependent Contractor’ which gives those individuals almost all of the rights and entitlements of employees. Our Labour Government has recently expressed interest in doing something similar.

So. If you’re thinking of engaging an Independent Contractor in your business, rather than an employee, have a good think about why you are doing that. If it’s for flexibility, or short term, or intermittent use, or for a specific project, then go ahead.

It’s important that you ‘get it right’ because the consequences of a mistake can be very expensive, time consuming and stressful!