Whether a worker is an employee or an independent contractor depends on the real substance of the whole relationship, not just what the contract calls it. Since 26 August 2024, the Fair Work Act requires courts to look at how the relationship actually works in practice. A genuine contractor runs their own business: they control how they do the work, can delegate it, use their own tools, work for other clients and are paid for results.
When a business is ready to grow, outsourcing can be a fantastic way to do it, with a real focus on strengths and skills. Contractors bring the expertise you need, on a project or as-needed basis, with a flexibility that employment often doesn't offer.
But it's also a double-edged sword. Done well, outsourcing can be a game-changer. Done poorly, it can leave you with sub-standard work, unhappy clients, invoices for work you can't use, and, if you get the classification wrong, a claim for unpaid entitlements and potential exposure to penalties.
Why does it matter whether a worker is an employee or a contractor?
Employees are entitled to minimum pay, leave, superannuation and protection from unfair dismissal. Contractors aren't, because they run their own businesses. If you treat someone as a contractor when the law says they're an employee, you can be liable for back-pay, unpaid leave and superannuation, and penalties.
The law is designed to protect workers who are really employees from being disguised as contractors, while still allowing genuine contractor arrangements. Your responsibility is to make sure your arrangements are genuine, and that you can show it.
What changed in 2024?
In 2022, two High Court decisions said that, where there was a comprehensive written contract, the contract itself largely decided whether a worker was an employee or a contractor.
That changed on 26 August 2024. A new definition in the Fair Work Act now requires the "real substance, practical reality and true nature" of the relationship to be assessed. The contract still matters, but so does how the relationship works in practice. Calling someone a contractor in an agreement isn't enough if, in reality, they work like an employee.
Two other changes are worth knowing:
The sham contracting defence is stricter. Since 27 February 2024, a business that misclassifies an employee as a contractor can only rely on the defence if it reasonably believed the arrangement was a genuine contract for services.
High-income contractors can opt out. A contractor earning above the high-income threshold, which is set each year, can choose to have their arrangement assessed under the old, contract-based approach.
And as always, you can't contract out of the law. If someone is genuinely an employee, a contractor agreement won't change that.
How do I know if a worker is an independent contractor?
There's no single test, and no one-size-fits-all answer. The law looks at the relationship as a whole. These are the factors that will be considered when determining a genuine independent contractor arrangement:
Control. The contractor controls how, when and where the work is done. With an employee, you set the hours, location and structure of the work.
Delegation. The contractor has the right to delegate the work to someone else. It's their business, and they get the work done in the way they see fit.
Tools and equipment. The contractor provides their own tools and equipment, rather than relying on yours.
Exclusivity. The contractor is free to work for other clients, which may include your competitors. Working only for you points towards employment.
Payment. The contractor is usually paid for a result or outcome, often a fixed fee for a defined task, rather than for hours worked (and if they are paid for hours worked superannuation obligations arise).
Their own business. The contractor carries the commercial risk of their own business. They have their own ABN, their own insurance and their own clients, issue tax invoices, and market their own services.
The agreement. There's a written independent contractor agreement that reflects how the relationship really works, and you both follow it in practice.
No single factor decides it. If most point towards employment, the label you give the arrangement won't save it.
What should an independent contractor agreement include?
Have a written agreement in place. Always. Every single time. It can be the contractor's own service agreement or your independent contractor agreement, but there must be one. Make sure it covers:
Crystal clear expectations of both parties: what the contractor will deliver, and what you need to give them so they can do it
Timelines, and what happens if there's a delay
Fees, and exactly how and when they're paid
Intellectual property, so it's clear who owns the work the contractor creates for you
Confidentiality of your business and client information
Insurance the contractor must hold
Termination, including notice, what happens to work in progress and what's payable.
Then follow it in practice. If the arrangement changes, record the change in writing, with a variation or a new agreement. An agreement that doesn't match reality won't protect you.
How do I outsource well?
A few habits make outsourcing work:
Start with the right agreement, as above.
Have regular touch points. A couple of quick check-ins keep projects on track and save a lot of pain and headaches later.
Review your arrangements regularly. As your business grows and roles evolve, a genuine contractor arrangement can drift towards employment.
Can a contractor still be treated like an employee under other laws?
Yes. Some laws can treat contractors like employees, even when the Fair Work Act doesn't:
Superannuation: if you pay a contractor wholly or principally for their labour, you may have to pay superannuation guarantee for them. For example, a virtual assistant who invoices you for hours worked is likely to trigger superannuation, while a social media manager paid a fixed fee for a set number of posts each month generally won’t.
Payroll tax and workers compensation: state and territory laws can capture some contractor payments. The rules differ between states.
These are worth checking with your accountant as well as your lawyer.
Outsourcing can be brilliant for small business. But like all things in business, it needs to be done properly. If you work with contractors, or you're thinking about it, book an introduction call and let's make sure you have all your ducks in a row.
This article provides general information only and does not constitute legal advice. Your obligations depend on your specific circumstances.
Frequently asked questions
How do I know if a worker is an employee or a contractor?
The law looks at the real substance and practical reality of the whole relationship. A genuine contractor usually controls how the work is done, can delegate it, uses their own tools, works for other clients, is paid for results and runs their own business.
Does a contractor agreement make someone a contractor?
No. Since 26 August 2024, courts look at how the relationship works in practice, not just the written contract. A well-drafted agreement is still essential, but it must match the reality of the arrangement.
What is sham contracting?
Sham contracting is when an employer disguises an employment relationship as an independent contractor arrangement. Since 27 February 2024, an employer can only rely on the defence if it reasonably believed the contract was a genuine contract for services.
Do I have to pay superannuation for contractors?
Sometimes. If you pay a contractor wholly or principally for their labour, you may need to pay superannuation guarantee for them, even though they're a contractor.
What should an independent contractor agreement include?
Clear expectations, timelines, fees and payment terms, intellectual property ownership, confidentiality, insurance requirements and termination. It should reflect how the relationship actually works, and both parties should follow it in practice.
