In many businesses, especially those moving through a period of growth or transformation, you’ll likely find a mix of employees, contractors and possibly also workers making up the work force.
And when you initially bring someone into your business, defining their employment status should be relatively straight-forward in most cases. The distinction between an employee, and a contractor coming in on a more temporary basis – an IT consultant working on an IT project or a freelance copywriter supporting a marketing campaign for example – is usually quite clear cut.
But where we most often see problems occurring for our clients is when relationships have evolved over time. It’s two years later, for example, and that freelance copywriter is working 9-5 on your marketing team, getting paid monthly and booking off annual leave like the rest of the organisation. The original contractor agreement may no longer be fit for purpose, placing you in breach of your legal employment obligations.
If you’ve had contractors working for you for a while and want to be sure your contracts still fit, or if you’re trying to determine whether an employee or contractor is the best option for your current business needs, this article will help.
We’ll set out:
• The differences between an employee and a contractor
• The benefits and disadvantages of employees and contractors
• When a contractor becomes an employee
• How a worker differs from an employee or contractor
• Why it’s so important to get employment status right
What is a contractor?
An independent contractor (also referred to as a freelancer or consultant) is someone self-employed who carries out work for you. Typically, they’ll be contracted in for the specialised knowledge or skills they can provide for a defined period of time to work on a specific project.
The following are the three key factors that help differentiate — in the eyes of current UK law — employees and contractors:
Mutuality of obligation: Contractors are not required to accept or to be offered work.
Control: Contractors will likely have considerable freedom over the hours they work per week or per month and set their own schedule.
Substitution: A contractor would, in theory, be able to hire someone in their own right, or get someone else, ie. an employee of theirs, to do the work.
A contractor is also likely to:
- be paid per ‘job’, or for a discreet period of time, as opposed to receiving an annual salary from you
- invoice for the work they do
- be responsible for their own tax and national insurance
- have their own professional insurance
- work for other companies
- determine where they work from
- use their own equipment
- make good any errors in their work free of charge – for example, if they forget to save a piece of work and have to re-do it, you would not have to pay for the additional time it took them to repeat the work.
How does an employee differ from a contractor?
In contrast to a contractor, an employee:
- will be obliged to accept work offered and the employer must provide work
- will be subject to more control over how they perform their work
- may be subject to restrictions around working for other people during and after their employment
- must work exclusively for their employer, at a location and for a time period determined by the employer
- won’t be able to get someone else to do the work for them
- will likely be paid by the hour, week or month, based on an annual salary or hourly rate agreed at the start of the employment.
It’s also important to remember that employee status covers part time workers, those working during term time only, over the weekend, or more causal hours.
A specialized skill set: Contractors can bring skills and talent to the organisation that you may not need to access on a day-to-day basis.
Objectivity: Less embedded in the organization, contractors may be able to bring a more objective view to projects and provide some constructive challenge to processes, helping you to improve.
Less HR admin: You won’t have to organize PAYE or contribute to National Insurance for contractors as they’ll be responsible for dealing with this themselves. And as they won’t benefit from sick pay or holiday, you won’t have to manage the HR admin that comes with this.
Good for urgent or temporary work demands: If you need help fast, someone with specific skills who is ready to do the job can be a great help. They won’t need to have an induction (although you will need to cover some basics), get to know the business or undertake any training – they’ll be able to get stuck in to the work right away.
Flexibility: If you find that the contractor you’re working with doesn’t quite have the skills to meet your current need, there’s more flexibility around issuing notice and terminating the relationship. Essentially, it’s far easier to replace them with someone more suitable, than if they were an employee.
Minimise the risk of an inappropriate hire: If you’re unsure about the most appropriate hire for your current business needs, or whether there’s enough work to employ someone on a permanent basis, taking someone on as a contractor can help you to test out and better define the role you need. This will either help you to shape the role you recruit for, or you might decide to offer a permanent position to the contractor (re-issuing employment contracts, of course!)
Less obligations as an employer: You won’t be obliged to continue supplying work and paying contractors if demand in work load reduces, or if their circumstances change. For example, if they want to take maternity or shared parental leave, you wouldn’t have to keep the role open for them or make statutory payments.
Competitive advantage: Working with highly skilled specialists, who’ve had a lot of different experiences and insights from within their industry might help you to gain a competitive edge.
Disadvantages of working with contractors
Lack of loyalty: A contractor will not have company loyalty and may be working for other clients in addition to you. They might also work for a competitor and it will be harder to enforce restrictive covenants in contractor relationships.
Less control: They may not always work on site and this could mean that you have less control over the work being done. They can also refuse to take on additional work or request a different rate of pay for different work.
Uncertainty: They can stop working for you, often with little notice.
Issues over copyright and intellectual property: If a contractor creates work for you, they own the copyright to the work unless a contractual agreement has been put in place to dictate otherwise.
Benefits of hiring employees over working with contractors
Greater control: You’ll have more control over employees and determine when and where employees work and when they take annual leave. You can also ask employees to take on additional responsibilities and learn new skills.
Greater understanding of the organisation: They’ll know the ropes and won’t need continual direction. This also means that with time, they could be in a position to train others.
Loyalty to the business: Employees can provide more loyalty, certainty and continuity. They’ll likely be more committed to the organisation’s goals and vision. You also have more scope to restrict the outside interests of employees during and after employment to make sure they don’t have conflicts of interest or set up in competition with you.
Consistency for customers: More embedded within the business, employees are likely to deliver a more consistent and ‘on-brand’ experience for customers.
Availability: You’ll always have them as a resource during set working hours to ensure that you can meet core operational demands.
Greater teamwork and collaboration: Employees can make for stronger and more effective teams as they share the joint goal of helping the business succeed.
Regardless of what’s written on paper, it’s the working arrangement that determines employment status in the eyes of the law.
Someone might start working with the business as a contractor, but if…
- control shifts to the client around working hours, how that work should be carried out and where;
- mutuality of obligation arises, where the employer is expected to provide work and the worker to accept it;
- or the worker must carry out the work themselves and not provide a substitute
…the relationship may have evolved into one of employment.
If this shift occurs, the worker will gain entitlement to a greater range of employment rights, which the employer must fulfill.
Complicating matters is the ‘worker’ employment status, which sits between an employee and contractor.
With the rise of the gig-economy and a more flexible labor market, we’re seeing this status becoming increasingly more common, creating certain grey areas when it comes to defining employment status. It’s such grey areas that have led to some of the high-profile legal cases around employment status over recent years, such as those involving Uber and Deliveroo.
The worker category encompasses zero hours workers, who you might turn to on an as and when basis. They’ll likely be there to bolster your work force during busy periods or events, rather than for the specialised skills they possess.
While you’re not obliged to provide workers with work, and they don’t have to take it, unlike a self-employed contractor, when they’re on the job, you have far greater control over how they perform the work, and they wouldn’t be able to substitute someone in their place.
They’ll also be entitled to the National Minimum Wage. So if you do use zero hours workers, it’s important you meet your obligations in fulfilling these.
It’s common to pay zero hours workers via your payroll, and they’ll accrue the right to holiday pay based on each hour they work for you. Our HR software makes it easy to keep track of accrued holiday pay for workers.
Another important point to bear in mind that differentiates worker status from employee status is that it’s illegal to require a worker to work exclusively for you.
The distinction between employee, worker and self-employed / contractor is important due to the impact such status has on legally binding rights and obligations including:
1. how you manage tax and national insurance;
2. which employment law rights apply (e.g. the right not be unfairly dismissed; the right to a redundancy payment; maternity pay; shared parental leave pay; minimum wage; sick pay etc).
If an employee is wrongly classified as a contractor, they could make a claim against you for not honouring their employment rights. They could demand backdated holiday pay, for example. You also risk falling liable for the tax and national insurance payments which had been avoided through the client – contractor relationship.
Keep your contracts and agreements under review
Our best advice when it comes to employment status is to regularly review your working relationships to ensure they’ve not evolved with time. Mapping the working relationships you have within your organisation against the checklists in this article should help with this.
And for more advice on employment status and creating appropriate employment contracts, consultancy agreements and zero hours worker contracts our HR consultants can help.