Employers engage in sham contracting when they mischaracterise an
employment relationship as an independent contracting arrangement.
By doing so, employers are able to avoid obligations which apply under
the Fair Work Act 2009 (the FWA, the Act) when workers are accurately
characterised as employees, such as payment of minimum wage rates, various
leave entitlements, penalty rates and shift loadings.It
is a deliberate strategy to disguise an employment relationship as a commercial
Sham contracting is illegal, but rife.
As an avoidance strategy it has considerable consequences which extend beyond
the disadvantage suffered by the workers concerned, who are deprived of the
security associated with direct, permanent employment and instead placed in
This chapter explores the practice through case studies, looks at
inadequacies in the law which perpetuate the problem, and sets out concrete ways
in which to address the issue.
The effect on workers
The committee heard that it is not uncommon for businesses to only
engage workers who have a legal company structure in place.
This puts tremendous pressure on workers, outlined in case studies presented by
witnesses and submitters below.
The construction industry has been plagued by sham contracting for many
One example provided by the Construction, Forestry, Mining and Energy Union
(CFMEU) suggests that employers at times exhibit quite flagrant disregard for
the law, requiring ongoing employees to become contractors:
[I]n 2016, Darwin-based concreting company JGA Concreting Pty
Ltd, required a number of its concreting employees to obtain ABNs and work on a
"sub-contract" basis even though the substance of the working
arrangements continued to be that of employer/employee...the company has ceased
remitting PAYG tax payments for these workers, is not making superannuation
contributions and no longer takes account of the ABN workers for payroll tax
purposes. One long term employee has complained that no superannuation
contributions have ever been paid for him over many years employment with the
company...Semi-skilled concreting and labouring duties are ordinarily incapable
of being carried out on a legitimate sub-contract basis as the work requires
the direction and control associated with an employment relationship and is
Similar examples can be found in much other industries as well, as seen
in evidence provided by the United Voice union (UV).
United Voice is an organisation representing over 120 000 Australian
workers. United Voice property services members work as cleaners, security
officers, parking attendants, caterers, prison officers, life guards,
gardeners, gate keepers and others.
The union characterises much of its members' work as insecure and low paid with
labour hire and sham contracting frequently featuring.
Whilst employers in the sector have in the past had a chequered history
in relation to compliance with their obligations under the relevant award,
there is now a recognised trend toward shifting business operations beyond the
coverage of the award through sham contracting:
Contracting out of labour has the general effect of reducing
workers' pay and conditions. This reduces the pay and conditions of those
engaged through these arrangements and also the pay and conditions generally in
sectors where there is significant use of a contracted or labour hire
workforce. This is done through a variety of mechanisms.... In the industries
which employ United Voice members contracting and labour hire is used precisely
because it is prepared to avoid loadings and penalties in contravention of the
award and also avoids costs associated with redundancy, and by not 'owning'
employees avoids more systemic costs associated with service such as long
service leave and the health costs associated with an established permanent
UV related the example
of Academy Services Pty Ltd, a company providing cleaning services to
businesses in the Adelaide CBD:
In discussing the impact of sham contracting on the labour market
throughout the industry, UV says:
Critically, contracting and labour hire makes collective
bargaining difficult, bargained outcomes harder to maintain and in the majority
of cases labour hire is used to undercut the bargained rate in a workplace or
sector due to the ability to regularly replace a cohort of workers effectively
collapses standards and bargained outcomes. Contracting, sub-contracting, and
labour hire operates as a significant feature of the labour market whose effect
is to reduce standards to the award safety net and, frequently, to a standard
effectively below the award. This creates a competitive logic that dictates
that anything more than the minimum is excessive and decreased labour costs are
a reasonable expectation of a user of labour. United Voice has observed that
this has been an important factor in the collapse of pay and conditions in
areas such as cleaning, hospitality and security.
Inadequacies in the legislation
Sham contracting is made easier by inadequacies within provisions of the
FWA which apply to the practice. It is also inadvertently encouraged by
taxation laws which provide a financial incentive for employment arrangements
to be hidden in some cases.
The FWA 'prohibits the deliberate disguising of an employment
relationship as a contract for services.'
The Act also prohibits the dismissal of employees and their subsequent
re-engagement as independent contractors who then perform the same or similar
However, provisions of the Act pertaining to sham contracting,
specifically section 357, suffer from considerable limitations, as explained by
Section 357 is infringed through the making of a
representation. The CFMEU has advocated for many years for a “strict liability”
type provision that provides for a civil penalty in circumstances where a
person who is an employee at law is treated by the employer as an independent
contractor. However, as the Act stands, the mere fact that an employment relationship
exists but the employee is nonetheless treated as a contractor, does not
establish a breach of the section. Whilst the High Court has recently
determined that it is immaterial that the misrepresentation was as to the
relationship between the employee and the employer or a labour hire company,
the misrepresentation requirement is still central to the operation of the
This means that an employer can avoid section 357 of the FWA by proving 'that
they did not know and were not reckless as to the representation.'
The Electrical Trades Union of Australia (ETU) also pointed to recent
High Court decisions which only serve to highlight the 'problematic' nature of
sham contracting provisions as they stand under the FWA, suggesting that the
provisions are too complex and too broad. Employers are able to exploit these
shortcomings, the ETU submits, and thereby evade liability.
Maurice Blackburn Lawyers warned that employees with legitimate entitlements
may be failing to seek legal advice based on the assumption that they are not
employees, as no definitive test exists at common law differentiating an
employee from an independent contractor.
this, the burden of proof effectively rests with the employee, because no
statutory presumption exists in the Act presuming the worker to be an employee
in the event of a dispute:
This means that the onus effectively rests on the worker to
establish, with reference to the common law 'multi-factor test', that they are
in fact an employee and not an independent contractor.
Achieving this, the National Union of Workers (NUW) points out, is an
onerous process which many employees would find difficult to understand, let
alone enforce. This is particularly the case for newly arrived migrants.
The NUW cites the high-profile case of Mr Pedro Vannea, who was engaged
by a labour supply company, Royal Bay International Pty Ltd, which was in turn
contracted by Baiada, as an independent contractor. Royal Bay created a company
for Mr Vannea, 'Pedro Vannea Pty Ltd'.
Mr Vannea boned poultry for below minimum wage over a number of years.
Being an independent contractor, Mr Vannea also forewent shift loadings,
penalty rates, superannuation, and other benefits applicable to employees under
This arrangement only began unravelling for Royal Blue and Baiada after
Royal Blue terminated the contract in January 2014—Mr Vannea was deemed to have
taken too many days off after a workplace injury. Following an application to
the FWC by the NUW on Mr Vannea's behalf, the FWC ruled that the Mr Vannea was
an employee incorrectly characterised as an independent contractor.
The committee notes with concern that the Act permits employers the
opportunity to prove that mischaracterisation of employees as independent
contractors was not done knowingly or recklessly. The fact that the FWA leaves
the onus on workers—including some of the most vulnerable workers in society—to
prove otherwise is in the committee's view an unacceptable burden. The
committee is of the view that this fact alone is responsible for many instances
of sham contracting going unchallenged, because it is self-evidently and
notoriously difficult for workers to navigate the system and take on
The committee particularly notes that there may be many employees who
may have been mischaracterised as independent contractors over a period of
years. These workers, in situations where their contracts were terminated, may
have been deprived of the right to significant redundancy pay.
The issue of "who is an employee?" has been extensively
considered by courts including the High Court. The criteria used are variable
and in some instances contradictory, for example, the criteria in the Vabu
decision were seen as exhaustive but have been modified in practice, such that
what is accepted by the ATO as an employment arrangement is denied to be such
by the FWC or the Federal Court.
Furthermore, the committee notes evidence provided by Maurice Blackburn
Lawyers regarding the absence of a definitive test at common law
differentiating independent contractor from employee relationships. The
committee is firmly of the view that the existence of economic incentives
encouraging sham contracting over employment and these must be addressed as the
root cause of the growth of sham contracting, the Act must be amended to
clearly set out a statutory definition of 'employee' and 'contractor'. This
would provide clarity and 'enable individuals to determine the nature of their
employment without recourse to the Common Law test.'
Weak civil penalty regime
The Australian Chamber of Commerce and Industry (ACCI) argues that the
Act, through the Fair Work Ombudsman (FWO), actively and effectively enforces
provisions relating to sham contracting:
An employer, whether they are conducting a labour hire
business or a business of another kind, has obligations under the Fair Work
Act, as well as many other laws. Failing to comply can result in penalties,
reputational damage, exposure to liability, back pay and potential litigation.
Others disagree, pointing out that the increasing prevalence of sham
contracting in itself suggests that the penalties for non-compliance with
existing provisions under the Act are not providing an adequate disincentive.
The ETU's submission explained that the civil remedy for sham
contracting established by the FWA is virtually powerless in dealing with
employers who engage in the practice. This is especially the case when the Act
is compared with similar statues, such as the Competition and Consumer Act
Unlike ASIC [Australian Securities and Investments
Commission] and the ACCC [Australian Competition and Consumer Commission], the
FWO does not have the power to seek an order disqualifying directors or
officeholders from managing corporations for a relevant period; and there is no
licensing regime with applies to employers generally (or labour hire agencies
The regime is, as described by the ETU, 'manifestly weak', and contains
broad loopholes for employers and corporations to reduce or avoid their
obligations under the Act entirely.
In the first instance, some employers misuse sham contracting to avoid
the safety net provisions of the FWA and the award system, as well as the
industrial system more broadly. The CFMEU explains:
By attempting to disguise an employment relationship as a
commercial contract, employers are also seeking to remove their workers from
other legal regulatory regimes that depend on employment status for their
operation. For example, the application of taxation laws - such as the
obligation to remit PAYG payments, pay payroll tax or utilise an ABN or the
alienation of personal income rules – as well as the coverage of workers compensation
and occupational health and safety laws and superannuation guarantee
provisions, can all be thrown into question by the use of sham contracting
The practice carries broader economic implications however. The CFMEU
estimates that sham contracting cost the public purse almost $2.5 billion in
2011 in the construction industry alone.
A 2012 Fair Work Building and Construction (FWBC) report indicated that
approximately 13 per cent of contractors exhibit typical employment features
and may be misclassified as independent contractors:
Overall this equates to a workforce in the building and
construction industry comprised of 61% employees, 34% genuine independent
contractors and 5% possibly misclassified contractors.
Furthermore, employers are not alone in deliberately disguising
employment relationships as contractual ones, with some workers seeking to
exploit ineffective taxation laws which make the practice lucrative. The CFMEU
Ineffective taxation laws, including the 'alienation of
personal services income' (APSI) provisions, are contributing to the sham
contracting problem. These rules were introduced ostensibly to reign in revenue
lost through the use of companies, partnerships and trusts to disguise income
generated by the personal exertions of individual taxpayers. The use of these
legal forms allows reduced or deferred tax liabilities through income splitting
and work-related deductions not available to employees, and the retention of
income in the entity to take advantage of lower tax rates.
This behaviour is seen across a variety of industries and is not
confined to white collar sectors such as IT or consultancy:
In industries like construction, it is common for people to
use a $2 company to provide their services, concreting, plasterboard work and
the like, in what is essentially an employee-like fashion.
It is clear that the incentives provided by 'alienation of personal
services income' tax provisions do little to curb sham contracting.
Like other corporate avoidance strategies, sham contracting will not be
curbed until and unless the penalties for engaging in the practice outweigh the
financial gains which motivate it. The committee strongly urges the government
to review how taxation laws may be incentivising the misrepresentation of
employment arrangements as contracting relationships for financial gain.
The committee recommends that the Fair Work Act be amended
to ensure that all workers have the protections of the Act and access to the
labour standards, minimum wages and conditions established under the Act.
The committee recommends that the government review taxation law,
including 'alienation of personal services income' provisions, with a view to
addressing unintended incentives for sham contracting.
The committee recommends that the Fair Work Act 2009 be
amended to make sham contracting a strict liability offence.
The committee recommends that the existing penalty regime for
sham contracting be reviewed with a view to increasing penalties to create a
more effective disincentive.
The committee recommends that, where the legal status of a worker
is in dispute, the party asserting that the worker is an independent contractor
be required to establish this by demonstrating that the worker is operating a
business and not working under that employer's control.
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