Can Australian Employers Use Contract Workers to Circumvent Employment Conditions or Wages?

September 7, 2008

Can Australian Employers use Contract Workers to Circumvent Employment Conditions or Wages?

Abstract
This article looks at the incidence of outsourcing, i.e. hiring contract workers or non-employees by Australian organisations. It highlights some Australian Federal Court decisions that will curtail outsourcing as a cost reduction strategy, and affect future outsourcing intentions.

Introduction
The conventional employer-employee relationship characterised by a contract of employment is being supplemented by another type of work relationship variously described as outsourcing, or contracting-out, or subcontracting. The US Outsourcing Institute 1 defines outsourcing as a management strategy by which an organisation outsources its non-core functions to specialised service providers 2. Secondly the Outsourcing Institute explains that outsourcing enables an organisation to acquire the services of contract workers to perform activities handled by more expensive in-house staff. This explanation tends to focus on the cost-reduction aspect of outsourcing where majority of managers begin to look at outsourcing as a way for off-loading labour costs 3.

Incidence of outsourcing
The practice of outsourcing is not new. Large organisations have always outsourced to accomplish particular types of work, or to afford flexibility in their output to meet demand. Organisations have always hired specialist contractors to utilise contractor’s capabilities or to access human or material resources that were beyond their own reach. But recently there has been a significant surge in outsourcing in small and medium sized businesses in the United States, Europe and Asia, even among the more traditional employers in the manufacturing sector.

In today’s highly competitive marketplaces, where there is increasing demand for specialised skills, the key concern of employers is how to survive and do well in this dog-eat-dog competition. This concern is in part responsible for this surge in outsourcing. The number of Australian workplaces using contractors increased by 50% (from 14% to 21% of workplaces) between 1990 and 1995, according to the Australian Workplace Industrial Relations Survey (AWIRS) 4. In the United States labour-hire companies place more than two million people daily 5.

Overseas and Australian experiences
Overseas organisations outsource for a combination of reasons such as acquiring specialised skills, handling merger and acquisition activity, correcting

financial problems, planning restructuring, recruiting and retaining skilled employees. The US Outsourcing Institute’s annual survey of executives lists top ten outsourcing reasons as: 6

• reduce and control operating costs
• improve company focus
• gain access to world-class capabilities
• free-up in-house resources for other purposes
• access to resources that are not available internally
• accelerate reengineering benefits
• cope with function difficult to manage / out of control
• make capital funds available
• share risks
• cash infusion

Most Australian studies suggest that Australian organisations see outsourcing as a way for focusing on core activities and rarely simply to reduce higher labour costs. One survey of outsourcing projects in the Australian public sector that covered 7,500 outsourcing contracts from 1995 to 1998 suggested that the main outsourcing reasons were: 7

• acquisition of better skills
• quality improvements
• cost savings

Evasion of award conditions?
Outsourcing has implications for organisations under various federal and state laws relating to taxation, superannuation, workers’ compensation, public liability insurance, award rates and conditions on leave, unfair dismissal and other conditions of employment. These laws cover and protect employees but not contract workers. Hence employers believe that the use of contractors can avoid many of the costs associated with the employment relationship.

Malcolm Jackman, Managing Director of Manpower, reflects the attitude of employers on hiring contract workers in the manufacturing sector, “We are seeing a number of our clients maintaining core staff only on the permanent payroll and taking their flexible staff off and putting them on to the payroll of contract labour organisations.” 8

Jackman adds, “Traditionally a lot of people would have casuals on their books in one shape or another but what we are seeing is customers starting to say: ‘We don’t want those casuals on our books any more. We’re not good at recruiting them, we’re not good at inducting, it’s a pain being an employer with payroll tax and superannuation … and it’s no longer our core competency
to hire and manage a casual workforce.’ So they give that responsibility to us and what they manage is the day to day supervision of the production line itself.” 9

Entering into a contract with a labour-hire company for the services of a worker effectively ensures that the relationship between the organisation and the worker is not that of employer and employee. The worker is an employee of the labour-hire company, and employment obligations rest with the labour-hire company. In its Taxation Ruling, TR 1999/13 issued on 8 September 1999, the Australian Taxation Office (ATO) outlined what it considers to be the difference between employees and contract workers for the purpose of PAYE tax provisions. The ruling states that a contract between a labour-hire company and its worker is a contract of service (i.e. employment) that requires the worker to provide services for the benefit of a third party who is a client of the labour-hire company.

Maintenance of award conditions - Federal Court decisions
But a series of recent Federal Court decisions on outsourcing has limited the extent to which organisations can use outsourcing as a means of avoiding award conditions or reducing labour costs. The first of these decisions of a Full Bench of the Federal Court in North Western Health Care Network v Health Services Union of Australia. FCA 897. 2/7/99 held that government and businesses could not outsource services in order to reduce employment conditions or wages. This principle has general application to all federal awards.

Two subsequent decisions of the Federal Court in CPSU v Stellar Call Centres. FCA 1224. 3/9/99, and Finance Sector Union v PP Consultants Pty Ltd. FCA 1251. 10/9/99 followed similar arguments. In the most recent PP Consultants case the Federal Court held that existing awards and enterprise agreements carry over whenever an employer contracts out part of the business to a service provider. In other words, employment conditions including pay rates are transferred from the original employer to the service provider along with the outsourced work.

These decisions will impact on:

• outsourcing costs
• privatisation of government activities
• certified agreements and Australian Workplace Agreements
Who is an independent contractor?
A worker’s status as either an employee or an independent contractor is important because as discussed earlier independent contractors are excluded from the operation of certain laws that apply to employer-employee relationship.

The main purpose of the distinction is to decide the applicability of certain statutes and industrial instruments, and to prevent their evasion. An organisation can face serious liabilities from legal breaches for misclassifying a worker as an independent contractor.

Therefore it is important that human resource professionals understand the distinction between these two types of workers. It is also critical that they have a working knowledge of the various tests that the courts and federal and state agencies utilise to evaluate the employment status of workers.

Contract of service versus contract for services
An employee is employed under a contract of service. An independent contractor is engaged under a contract for services. Whilst it is easy to state this distinction, in practice it has proved difficult to apply. The main problem arises from the difficulty of determining the criteria for the distinction, and formulating them into a precise definition. The search for criteria over the years led the courts to develop a number of tests to answer the question of who is an independent contractor.

Although none is definitive or easy to apply, the three primary tests are:

1. Control test
The control test examines the nature and degree of employer’s control over the manner in which an individual works. If the employer can direct the individual not only what to do but how to do it then a contract of service probably exists. However, the nature of the contemporary workplace makes the control test problematic. For example, an employer may be unable as well as unwilling to instruct a highly skilled individual on how to do the work because it is outside the employer’s professional training and competence to do so. In many cases, individuals are employed for the very reason that they bring capabilities to the organisation that the employer lacks.

More recent judicial decisions have refined the determinate factor of the control test to the right to control. The paradox will always be that the greater the degree of control exercised by the employer the more likely it will be that the contract is one of service. However, the greater the skill required for an individual’s work the less significant employer control is in determining whether or not the individual is under a contract of service. Clearly the control test is not always conclusive.

2. Organisation test
The test of being an employee does not rest nowadays on submission to orders. It depends on whether the individual is part and parcel of the organisation. Hence the organisation test examines the extent to which an individual is an integral part of the organisation. Under a contract of service an individual is employed as part of the business, and their work is done as an integral part of the business; whereas under a contract for services their work although done for the business is not integrated into but only accessory to it.

This test appears to be deceptively simple and logical but there are difficulties in examining the meanings of organisation and integration. Certainly the test cannot be regarded as decisive. Like the control test it can only be considered as a search for different criteria which in given circumstances may or may not attach to employment relationship.

3. Mixed test
In most cases, answering the question of who is an independent contractor is too complex to be resolved by the application of any single simple test. More often the courts will consider all the surrounding features of the relationship between employer and individual, applying what is in fact a mixed test.

The relevant factors to be considered include:

• intention of the parties
• employer’s power to select their employees
• employer’s right to suspend or dismiss
• employer’s right to control the manner of doing the work
• whether the worker is integrated into the employer’s organisation as part and parcel of it and not only as an accessory to it
• risk of loss
• payment of wages or other remuneration
• superannuation contributions
• payroll tax

Despite their close association with employment, these criteria singly or jointly may not be conclusive. The criteria have only persuasive value. No list of tests can be exhaustive and the weight to be attached to particular criteria varies from case to case.

Discard the tests?
The increased mobility of the working population in modern times, plus possession of specialised skills, results in many short-term contracts of a borderline character in which the emphasis is placed on selling personal skills. Will an engineer, who undertakes some construction work for six months and then moves on to another employer, be classified as an employee or independent contractor? He probably would say that he is self-employed hiring out his expertise and skill, in no way different from a practicing solicitor, doctor or accountant.

The whole economic and social content of employment law has changed since the days of master and servant when employment relationships were relatively simple, and the tests could be easily applied to distinguish between the two types of workers. The law must now be revised and the distinction discarded. Till then the courts will deal with the problem of applying the various tests, perhaps with a common sense approach.

Conclusion
The future of outsourcing in Australia seems to be certain. The need to survive and to do well in stiff global competition, plus in-house pressures to manage and accommodate complex business demands, helps us to predict that outsourcing is here to stay.

Australian outsourcing studies and surveys reveal why organisations outsource, what benefits they derive, or how they implement the contracts. Questions will always remain about the wider implications and long term costs of outsourcing and, in particular, outcomes for the labour market. With time these issues will become clearer.

NOTES

1. US Outsourcing Institute, www.outsourcing.com
2. This definition is debatable as organisations often outsource their core functions.
3. Outsourcing, if properly planned and managed, can be used more profitably to free up vital in-house resources to improve business focus; increase employee benefits; and improve productivity.
4. IR Intelligence Report, An Australian Centre for Industrial Relations Research & Training (ACIRT) report, commissioned by Workforce Issue 5 1999 at 1.
5. Noakes, Frank, Lighten Your Load, Plantline, Reed Publishing, March 1999 at 20.
6. Survey of Current and Potential Outsourcing End-User Executives, US Outsourcing Institute Membership, 1998, supra note 1.
7. Supra note 4 at 2.
8. Supra note 5 at 20.
9. Supra note 5 at 20.

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