The Perils of Sham Contracting

What makes a sham contract?
June 22, 2016
Workers Compensation Changes in NSW
June 22, 2016

The Perils of Sham Contracting

The Fair Work Act 2009 (the Act) protects genuine employees from being subject to sham contracting arrangements and in recent years there has been a heightened focus from both the Fair Work Ombudsmen and the Australian Tax Office to crack down on businesses that subvert these protections – ignorance is no defense.

With an increasing number of businesses seeking flexible workforces and a general unfamiliarity with the Act’s sham contracting provisions, the dangers of non-compliance have never appeared larger. This article looks to shed some light on this thorny issue.

What exactly is sham contracting?

A sham contracting arrangement occurs where an employer attempts to disguise an employment relationship as an independent contracting arrangement. This is typically done by employers to avoid their obligations to their employees, including minimum pay rates, superannuation, leave and other employment entitlements as well as responsibility for workers’ compensation insurance.

Accordingly, the Act’s sham contracting provisions make it illegal for employers to:

Misrepresent an employment relationship as an independent contracting arrangement.
Dismiss or threaten to dismiss an employee for the purposes of engaging them as an independent contractor to perform the same or substantially the same work.
Knowingly make a false statement to persuade or influence an employee to become an independent contractor.
The penalties

Sham contracting is a serious matter because it can lead to employees being denied their rightful workplace rights and entitlements and so contravention of these provisions can result in heavy penalties being imposed by the authorities. Penalties include but are not limited to a maximum penalty of $33,000 for each contravention, compensation payments to each employee for any loss they have suffered as well as injunction and reinstatement orders.

The above demonstrates how important it is for employers to clearly define working arrangements from the very beginning, to avoid serious legal action arising at a later time.

Clear distinctions?

Unfortunately, distinguishing between who is an independent contractor and who should be an employee is not straightforward. The problem with this area of the law is that such distinctions can be a bit grey. As every work arrangement is unique there is no single factor which will definitively indicate what the nature of the relationship is. Contrary to popular belief, just because a worker has an ABN or invoices for payment does not automatically mean they are an independent contractor.

The authorities will look at the totality of the relationship between the parties when determining whether an individual is an independent contractor or an employee. Case law suggests that the following are key assessment criteria:

Degree of control

An employee performs work under the direction and control of their employer.
An independent contractor has a high level of control in how the work that they have been contracted to perform is done on a day to day basis.

Length of engagement

An employee generally has an enduring employment relationship with their employer.
An independent contractor is usually only engaged for a specific task.


An employee is part of their employer’s business and so bears no financial risk themselves.
An independent contractor is in business for themselves and so bears the risk of making a profit or loss on each contracted engagement, as well as responsibility and liability for damage, injury, defective and substandard work – as such independent contractors generally have their own insurance.

Misconduct or underperformance

Employers may suspend and take disciplinary action against an employee on grounds of misconduct or underperformance.
Where an independent contractor has underperformed or is guilty of misconduct the business may simply bring the contractual arrangement to an end.

Tools, equipment and uniform

Employees are provided tools and equipment, or a tool allowance, to perform their duties, as well as a uniform by the employer.
An independent contractor typically provides their own tools, equipment and other necessities required to complete the work.

Tax and superannuation

An employer pays their employee’s superannuation contributions into a nominated fund as well as deducting incoming tax from the employee’s pay on their behalf.
Typically an independent contractor pays their own tax, GST (where applicable) and superannuation. Although, please be aware that this is not always the case.

Method of payment

An employee receives a regular salary or wage.
An independent contractor submits invoices and generally gets paid by result, when set tasks or stages of work are completed.


An employee has no right to delegate their work to another individual.
An independent contractor may employ their own employees or engage subcontractors to carry out the work at their own cost, or has the authority to do so.

Steps to take now

Employers are advised to take the following steps, if they have not already done so, to avoid potential liability under the Act:

Seek advice or become familiar with the key assessment criteria for determining whether a worker is an employee or an independent contractor.
Undertake a review of your current contracting arrangements to ensure the appropriate contractual relationship is in place.
If you regularly engage contractors, and especially if you engage them for lengthy periods of time, you should routinely review these working relationships to identify whether the arrangement has evolved into something more like an employment relationship.
Ensure your recruitment managers are appropriately trained to correctly identify suitable contracting arrangements and understand the operation of the sham contracting provisions under the Act.

Source :

This Article was written by Stuart Chan, Documentation Advisor and reprinted by Employsure. Employsure is a Premier Partner of VeriSure.

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