Employment status: A guide to understanding who you’re hiring

Hillier Hopkins LLP

Chartered Accountants & Tax Advisers

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If your business engages personnel on a self-employed basis, you need working practices to reflect their employment status. It’s relatively straightforward to distinguish employees, ‘workers’ and the self-employed on paper. But in practice it’s far more complicated.

Doing something as simple as allowing a self-employed contractor to eat in your staff canteen would suggest to HMRC that they are actually an employee, potentially leaving you vulnerable to employment rights claims.

Here we explain the differences between employment status types, the rights afforded to each, and the risk that firms take on by not sticking rigidly to the rules.

What is an employee?

Employee status is straightforward, and shouldn’t require much explanation from us. The likelihood is that the vast majority, if not all of your company’s workforce are employees.

Employees work under a ‘contract of service’, which means that they are required to carry out the agreed services personally. The contract runs indefinitely, and sets out the employee’s responsibilities, duties, employment conditions and rights.

The rights granted to all employees include:

• Statutory sick pay
• Statutory maternity and paternity pay
• Time off for emergencies
• Protection against unfair dismissal
• Statutory redundancy pay

Engaging somebody in a contract of employment poses no risk to your business as it means you are paying employer’s NICs on their income and providing all the mandatory statutory rights.

What is a worker?

Like employees, ‘workers’ are personally required to provide services in exchange for either money or a benefit in kind. However, a worker doesn’t necessarily hold a contract to carry out the services.

For the duration of the engagement, the worker is obliged to turn up for work every day as agreed, and the hirer has to find work for them to do. Although workers agree to provide services personally, some may have a limited right to subcontract their work out to others.

Workers qualify for certain employment rights, notably:

• Paid holiday
• Protection against unlawful discrimination
• Protection against unlawful deductions from wages
• The National Minimum Wage.
• Possibly statutory sick pay and maternity pay

Here are some further indicators that somebody you have is engaged is a worker:

• They work for you on an occasional basis
• You supervise the work they carry out
• You exert a significant degree of control over them

What is a self-employed contractor?

Someone who is self-employed is in business for themselves. They aren’t employed by anybody, and so they don’t receive anything in the way of employment rights. They operate under a contract for services, or a business to business contract, and are responsible for managing their own tax affairs and may run their own company.

Many choose to work this way in exchange for the flexibility it offers. It allows them to work for multiple clients on a project-by-project basis, and generally means that they control what, how, when and where they carry out the work.

For a contractor, the engagement with the hirer ends when the project has been completed. There is no obligation for the hirer to provide further work past this point. The contractor will often also have the right to send in a substitute in their place.

This way of working can also be more advantageous from a tax perspective. Most self-employed contractors typically trade via their own limited company, and withdraw income tax-efficiently via dividends which aren’t subject to NICs. This is generally viewed as a fair exchange for the employment rights that they forego and for the risk that they undertake in running their own business.

However, HMRC believes there is widespread abuse of this model, with employees gaining the tax advantages of trading via a limited company without taking on the associated risk.

Does your company owe employment rights?

The gig-economy, and particularly its exploitation through what’s known as ‘false self-employment’, has thrust employment status into the spotlight. False self-employment is where a company agrees a contract of self-employment with a worker, yet proceeds to treat them as an employee throughout the engagement.

The gig-economy worker misses out on valuable employment rights. Meanwhile, the company engaging the worker benefits as they avoid the cost of providing employment benefits as well as employer’s NICs.

This model of working made headlines during the October 2016 employment tribunal between transportation network company Uber and two of its drivers. Here the drivers, whom Uber maintained were self-employed, were granted worker status and the equivalent rights.

The ruling led to a wave of similar challenges, and alerted many workers in sham contracts of self-employment to rights that they could be eligible for.

It is often cheaper to hire personnel on a temporary, self-employed basis, and this may be a feature of your firm’s hiring practices. You may hire staff under the premise of self-employment. But if your working practices don’t reflect this agreement, your company could leave itself vulnerable to workers’ rights claims and the additional cost of employer’s NICs.

How do I evaluate employment status?

There’s no statutory definition of employment status. Courts and tribunals use employment case law precedents to examine the ongoing practices in a working relationship. This means a contract that you agree may have little force in law if it fails to reflect the true working relationship.

There are three key tests of employment. These three factors have more influence over employment status than any other, and can provide a healthy indication of the employment status of your temporary workers:

• Control: Do you or another member of your team exert control over how, what, where or when the work is carried out?
• Personal service/substitution: Is the individual personally responsible for the completion of the work, or are they permitted to send a substitute in their place?
• Mutuality of obligation: Are you obliged to offer them work, and are they obliged to accept the work offered?

Evaluating control

A certain degree of control is present in any working relationship, and sometimes it’s unavoidable. For example, a self-employed construction contractor often can’t decide their own hours because they need to be on site when it’s open.

It’s generally accepted that providing somebody with a brief on how to complete a task before leaving them to their own devices doesn’t warrant significant control. But instructing them on how to carry out individual aspects of work whilst on the job almost certainly will.

If you hire a worker on a contract of self-employment but your firm exerts a substantial amount of control over their work, you may want to reconsider their contract. Nothing is set in stone based on control, but it is the point where many firms come unstuck. Uber lost its tribunal largely due to a body of evidence demonstrating that it exerted a large amount of control over its drivers.

Evaluating personal service

A contract for services will typically include a substitution clause, allowing the individual to draft in someone else to carry out their work if needs be. However, if you include a substitution clause but in reality you expect the individual to carry out the work themselves, you’re not fooling anybody.

The courts are wise to what they refer to as ‘sham’ contracts, the key feature being substitution clauses included purely to suggest a business-to-business relationship, where in fact the clause cannot or will not be enacted.

You may hire somebody on a temporary basis for access to specific skills that they possess. If so, you are unlikely to accept a substitute in their place. If this is the case, alarm bells should be ringing.

Evaluating mutuality of obligation

A contract of self-employment means assigning a project or set of tasks to be completed. The point that the project is completed should be the point where the engagement ends, meaning mutuality of obligation shouldn’t factor into the equation.

Be sure not to use a self-employed worker beyond the completion of the work that you hired them to complete. If you have an extra pair of hands available, it can be tempting to make use of them around the workplace, but this can be the point where they cross the line from being self-employed to being a worker.

Even though it’s not in writing it can imply a mutuality of obligation is present, which could result in a claim for workers’ rights.
Other factors to consider

There are also other lesser factors which influence the assessment. These include provision of equipment: genuinely self-employed people provide their own equipment or materials to complete work.

You also need to apply the ‘part and parcel’ test. Here you consider whether the worker is a ‘fixture’ of your organisation? For example, if a worker eats in your staff canteen or uses business cards branded with your company logo, these are solid indicators that there is an employer/employee relationship.

The tax liability threat

Turning from employment law to tax, the Intermediaries Legislation may soon pose another potential threat to companies. More commonly known as IR35, the tax legislation targets ‘deemed employees’, contractors who benefit from the tax-efficiencies of being self-employed, but whose working practices resemble employment.

Up until recently, IR35, was of no concern to firms engaging contractors, as contractors have traditionally carried their own tax liability when found in breach of HMRC regulations.

However, reforms to IR35 in the public sector introduced in April 2017 mean public sector organisations are now responsible for assessing the employment status of the contractors they hire. Crucially, they are liable for outstanding taxes if:

a) they are found to be incorrectly engaging a worker as self-employed; and
b) they cannot prove that they took ‘reasonable care’ when evaluating the worker

Shifting this burden onto organisations with no prior experience of IR35 has proven controversial, and has highlighted the complexities surrounding employment status. These rules are currently only applied to the public sector, but the overwhelming consensus is that they will soon be expanded into the private sector.

Complacency is a major threat. If a company hires a contractor for an extended period of time, both parties can start to get comfortable. Before you know it, the working relationship can begin to mimic that of an employer and employee.

If your firm uses hired staff on a contingent basis you may soon be exposed to this risk. To mitigate this you need to be able to spot the key characteristics of employment and self-employment, and apply this understanding rigidly in your organisation to ensure you do not expose yourself to any needless tax or employment rights liability.

For further guidance on this matter, get in touch with HillierHopkins now. We have industry specialists with IR35 expertise who can help identify the warning signs and ensure that your business practices remain compliant.

This ​article is written for general interest only and is not a substitute for consulting the relevant legislation or taking professional advice. The authors and the firm cannot accept any responsibility for loss arising from any person acting or refraining from acting on the basis of the material included herein.