In the current climate businesses are increasingly seeking to use more flexible ways of engaging individuals to carry out work. By using self-employed contractors and agency workers, businesses can limit their potential liabilities when compared with taking on employees. However, difficulties can arise when an engaging company is under the impression that its contract clearly engages an individual as a “contractor” or “worker” but following a dispute the tribunal deems the contact to be a “sham” and that in reality the individual is an “employee” and is subsequently granted additional protections under UK employment law. The following Q&As will help employers identify the issues and potential pitfalls when identifying the status of its workforce.

1. What is the legal test for deciding whether an individual is an employee or not?

In order for an employment tribunal to determine whether an individual is an employee or not the following factors are indicative of there being a contract of employment in place: the contractual provisions, the degree of control exercised by the employer, the obligation on the employer to provide work, the obligation on the employee to do the work, the duty of personal service, the supply of tools and other equipment, tax and national insurance arrangements, the inability to work for other employers, and the presence of mutuality of the obligation to provide work or do work. No single factor is conclusive but a tribunal will take all of the factors into account in order to make such a determination.

2. How do legal protections and employer liabilities vary according to an individual’s status as either “self-employed”, “worker” or “employee”?

“Self employed” – most employment law statutory protections do not apply, however, a self-employed person can benefit from the protections afforded by anti-discrimination legislation which also protects individuals when providing or obtaining services. Businesses need not take out employer’s liability insurance in relation to self-employed individuals nor do they have to make national insurance contributions in respect of pay to self-employed persons.

“Worker” – workers have no right to unfair dismissal protection, nor the right to a statutory redundancy payment. However, workers have certain minimum entitlements such as the right to at least the statutory minimum wage and statutory holiday leave and rest breaks. They are, of course, protected under anti-discrimination legislation. Note – the government is currently consulting about the prospect of providing agency workers with additional statutory protections under the requirements of the European Agency Workers Directive. The deadline for incorporating the requirements of the European Agency Workers directive is currently 5 December 2011 (although trade unions are lobbying for an earlier implementation date).

“Employee” – employees enjoy the greatest amount of employment law protection, including the right not to be unfairly dismissed and the right to statutory maternity/paternity leave etc. In addition, only employees can benefit from the automatic transfer of their employment to a purchaser of their employer’s business under the TUPE legislation.

3. What is meant by a “sham” contract?

Essentially, “sham” is a term used by the courts and employment tribunals to describe either an entire contract, or a provision within a contract where the parties to the contract have jointly agreed to deceive a third party (such as a court, or a tax authority) in order to make it appear as if there is an intention to create certain legal relations (e.g. a self-employed contractor agreement) but which neither party intends to exist between them. Alternatively, and possibly more worryingly, a sham contract may also exist without any joint intention to deceive, but the court or tribunal deems that in reality neither party to the contract intended the contract or a provision in the contract to have any binding effect.

4. In what circumstances might a contract be deemed to be a “sham”?

Example: there is a clause in a contract which provides that if the individual is absent, he is under an obligation to provide a substitute to carry out the work. Contractor agreements commonly contain such a provision and the existence of such a provision indicates that the individual does not fall within the statutory definition of “worker” as there is no obligation to carry out the work “personally”. However, if neither the individual nor the company ever intends for the individual to be obliged to provide a substitute in his absence despite the fact there is no joint intention to deceive any third party, the court will determine that the provision is a “sham” and this can subsequently change the status of the individual from “contractor” to “worker”. These were the facts in the 2008 case of Redrow Homes (Yorkshire) Limited v Buckborough & Anor.

5. What are the risks and penalties of relying on a contract which may be deemed to be a “sham”?

Scenario: a company has engaged agency workers on a long term basis, and then due to a reduction in workload terminates the contract with the agency who provides the workers. Risk: if the agency contracts are a “sham” and the workers are in fact employees of the company, the individuals may have been unfairly dismissed due to the company’s failure to follow any fair dismissal procedure. Unfair dismissal compensation may be up to £66,200 per employee. The employees may also be due a basic award or statutory redundancy payment of up to £10,500 per employee. If more than 20 employees were dismissed, any failure by the company to consult collectively could result in a protective award of up to 13 weeks’ full pay per affected employee. In addition, if HMRC also determines that the workers are employees (the legal tests can differ from those used by the employment tribunal) it might seek recovery of unpaid national insurance contributions going back six years together with interest and penalties.

6.Is there any helpful case law for companies who want to use agency workers?

There has been some good news for businesses in relation to engaging contractors. In a recent case (James v Greenwich London Borough Council) relating to an agency worker, an individual sought to bring an unfair dismissal claim when the end-user (the London Borough of Greenwich) terminated its contract with the agency. The individual sought to bring an unfair dismissal claim and argued that her agency contract was a “sham” and that she was in effect an employee of the council. The Employment Appeal Tribunal helpfully found that passage of time alone does not establish any mutual obligations between a worker and end-user. In order to imply a contract of employment into a tripartite worker/agency/end-user relationship it will be necessary to show that the worker is no longer working pursuant to the agency arrangements but as a result of mutual obligations binding the worker and end-user.

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