Understanding the Risks of Sham Contracting
Did you know that as an employer, you may be penalised for sham contracting if you incorrectly classify an employee as an independent contractor? That is, unless you can prove that the amended sham contracting defence applies.
Prior to the reforms which came into effect on 27 February 2024, you only needed to prove that you did not know and were not reckless as to whether the contract was an employment contract rather than one for services.
The new narrowed defence means that you have not breached the sham contracting provisions if, at the time of the engaging the worker, you “reasonably believed” the contract of employment was a contract for services.
In determining whether your belief was reasonable, the Courts will be required to consider the size and nature of your business and will have discretion to consider any other relevant matters.
In this week’s blog, we unpack what exactly sham contracting is – and outline the potential risks involved in getting it wrong.
What is Sham Contracting?
Before we look at the potential risks, it’s important to clearly explain what is meant by ‘sham contracting’.
Sham contracting occurs when an employer tries to mask an employment relationship as an independent contractor arrangement although it is, in actual fact, an employment relationship.
The reason for doing this is usually to avoid an employer’s obligation to provide employee entitlements – e.g. overtime, annual leave loading, penalty rates, superannuation etc which exist under awards, enterprise agreements and the National Employment Standards.
Under the Fair Work Act 2009, it is unlawful for an employer to:
- misrepresent to a person that the worker is an independent contractor when a reasonable person would know they are an employee;
- dismiss or threaten to dismiss an employee so they can then engage them as an independent contractor;
- make a knowingly false statement to an employee (or former employee), who is employed to perform particular work, so as to persuade or influence that person to become an independent contractor and still perform the same, or substantially the same, work.
What are the risks of getting it wrong?
For employers who are found to have engaged in sham contracting, the risks can be severe.
Some of these risks include:
- The Fair Work Ombudsmen can prosecute employers who enter into sham contracting arrangements with their workers.
- Civil penalties of up to $93,900 for corporations and up to $18,870 for individuals can be imposed for each breach of the sham contracting provisions.
- An individual can also make a claim under the general protection provisions of Fair Work Act 2009 alleging sham contracting and the same civil penalties apply.
- If sham contracting is proven then, in addition to the civil penalties, the employer would be required to back pay the individual found to be an employee all employee entitlements, including superannuation.
The Australian Tax Office and the Fair Work Ombudsman will investigate employers who intentionally try to avoid their obligations by misclassifying employees as independent contractors.
A copy of the compliance and enforcement information can be found HERE
Key Takeaways
- Sham contracting occurs when an employer incorrectly classifies an employee as an independent contractor, generally in an attempt to avoid their obligations concerning employee entitlements.
- The practice of sham contracting is unlawful under the Fair Work Act. Businesses and employers who engage in this practice can face serious civil penalties – up to $93,900 for corporations and up to $18,870 for individuals per breach.
- Recent reforms mean that employers must now be able to demonstrate that they reasonably believed that an employee was an independent contractor. The previous defence that an employer “did not know” and was not reckless in determining an individual’s employment status is no longer sufficient.
- Businesses and employers should carefully assess any new and existing independent contractor arrangements in order to ensure they are strictly complying with their obligations under the Fair Work Act
Akyra can advise employers about employment contracts and assist in ensuring compliance with the relevant legislation. Contact the team at Akyra today for an obligation-free discussion.
Disclaimer – Reliance on Content
The material distributed is general information only. The information supplied is not intended to be legal or other professional advice, nor should it be relied upon as such. You should seek legal or professional advice in relation to your specific situation.
