The ATO has been hugely successful in challenging the tax treatment of contractors.   The big risks are to businesses engaging workers as contractors rather than as employees, which could leave the employer liable for substantial payouts and penalties as well as the requirement to pay superannuation.   The Superannuation is the central issue for the ATO.

Definition of Employee

A worker is regarded as an employee for Superannuation Guarantee SG purposes where payment is principally for the labour of the person, whether under a contract, at common law, or under an award.   The ATO will always win where the employment contract requires the contractor to personally perform the work, is paid for hours rather than for a specific result, and where the payer has control over the worker.

The Courts are backing the ATO's approach, both relying on the expansive common law definition of employee rather than the more narrow definition for SG purposes.

Superannuation to be Paid

As soon as a person is an 'employee', the SG is payable because it is not possible to contract out of SG obligations.   Before 1/7/13 the rate was 9%, and is now 9.25%.

There are big consequences as a result:

         The ATO can go back as many years as it wants to, although in practice may limit the period to 5 years

         The employer is liable to pay (sole traders or partnerships are legally liable), and if a company or trust, the entity and the directors are liable

         The payments under SG are not tax deductible.

One Solution - Interposing Companies or Trusts?

This can help but is not definitely fool-proof.   In the recent Full Court decision re Roy Morgan's, Morgan's lost because even though the interviewers were engaged through a company the contract required the interviewer to perform the work (which made him an employee).

An interposed entity can provide some protection if structured and documented properly

Quality Written Contracts are Critical

Any agreement needs to be in writing, without one there is little chance of justifying the correctness of the taxpayer approach, and there are least 6 key factors that need to be documented.

However, keep in mind that the courts will look at the true nature of the arrangements and will put little weight on the terms if they are not consistent with practice.

Can the Problem be made to go Away?

There are a few issues that have to be overcome.

         The ATO is raising revenue and is winning, so is unlikely to just back away.

         The Government, and the former Government, saw the non-payment of a lot of employee super entitlements, creating a 'cause to champion'.

         Directors of a company remain personally liable to pay the super even if the company is liquidated.

Unfortunately, any attempt to just walk away is unlikely   to be effective.

Conclusion

There is just no easy answer in this area.   As long as contractors are used the ATO is likely to question and challenge the treatment of these workers.

It is crucial that business owners and directors are aware of the scope of the SG system, and that it can potentially apply to workers who would not ordinarily be treated as employees. Court decisions usually treat the workers as common law employees, so expanded legal definitions are not even required.

That means there are substantial risks, not only for super, but areas like PAYG Withholding (pay the tax that should have been deducted from the wage), payroll tax, FBT and workcover too.   There is no limit on how far back the authorities may go.   There is personal liability, a result that   cannot be avoided.

It is not all bleak though.   Make sure the circumstances are right, set up the right entity, and prepare an effective written contract which is followed in practice too.   A lot of disputes with the ATO are decided on the facts rather than an interpretation of legislation.

What to Do Now

Examine your situation now and over the past 2 or 3 years; could this Contactor engagement be an issue?   If you are continuing to use individual contractors (rather than   other businesses), get advice early.   You may be able to reduce your risk but are unlikely to eliminate it entirely.