The employee/contractor distinction in M&A transactions
If you assumed that engaging workers as independent contractors by mutual agreement, as opposed to employees, would relieve you of your obligation to pay employee entitlements including superannuation guarantee payments, think again. This issue arises in various contexts, including in M&A transactions.
In a recent example, the case of Dental Corporation Pty Ltd v Moffet [2020] FCAFC has provided a timely reminder that if someone is working under a contract that is wholly or principally for their labour, they may be entitled to superannuation guarantee contributions (‘SGC’). The case also reminds us that the distinction between employee and independent contractor is complex, and getting it wrong can be costly.
Background
In Dental Corporation Pty Ltd v Moffet [2020] FCAFC, Dr Moffet, a dentist, sold his practice to Dental Corporation Pty Ltd (‘Dental Corporation’).
A condition of the sale was that Dr Moffet would be retained to work for Dental Corporation as an independent contractor pursuant to a five-year services agreement. When the five years expired, Dr Moffet continued to work for Dental Corporation in the same manner, for another five years.
During his period of work, he operated independently, choosing the times and hours that he worked. He could also take leave when he liked and agreed to subsidise Dental Corporation’s cash flow in case it failed to meet yearly targets.
His contract provided that he was an independent contractor and there was no written obligation for Dental Corporation to pay employee entitlements like annual or long service leave, or to pay superannuation guarantee entitlements. After his resignation, Dr Moffet sued Dental Corporation for annual leave, long service leave and superannuation entitlements, claiming that he was, in fact, an employee of Dental Corporation.
The Full Court of the Federal Court disagreed that Dr Moffet was an employee, at common law. However, the Court did find that Dr Moffet was caught by the broader definition of employee in the Superannuation Guarantee (Administration) Act 1992 (Cth). This meant that Dental Corporation was liable to make SGC payments on Dr Moffet’s behalf.
4 key lessons from this case
There are a number of key takeaways from the case:
1. The law has different tests for whether someone is an employee
A common law ‘employee’ is typically someone who works pursuant to a contract of employment. They work regular and set hours (for example, 9 to 5, Monday to Friday) and have little control over how or where they carry out their work.
It is usually easy to differentiate a common law employee from an independent contractor because independent contractors generally have much more freedom in how they carry out their work. They will usually provide their own tools or equipment to perform their work, they can delegate or sub-contract work and they are generally remunerated to produce a result as part of their own business activities.
The problem that has been highlighted by Dental Corporation Pty Ltd v Moffet, is that the Superannuation Guarantee (Administration) Act 1992 defines ‘employee’ much more broadly. Dr Moffet’s contract required him to provide dentistry services to patients of the practice and practice management to the company, and therefore, he was working under a contract that was wholly or principally for his ‘labour’.
This deemed him an ‘employee’ for superannuation purposes.
2. If it looks, swims and quacks like a duck, then it probably is a duck
No matter how much a worker may be dressed up to look like an independent contractor (whether by way of a comprehensive independent contractor agreement or simply by reason of the parties emulating a principal/contractor relationship), this is not necessarily determinative of an independent contractor relationship. Common law and legislation supersede the terms of any written contract.
Dr Moffet was caught by the broader definition of ‘employee’ under superannuation legislation because he was operating under a contract that was principally for his labour. He was providing dental services in the same way that other employee dentists would. He was not managing his own practice of dentists that were providing dental services to Dental Corporation.
3. Do your due diligence
If your M&A transaction involves acquiring an entity that has engaged workers as independent contractors, when they are in fact employees at law, then you will become liable for the employee entitlements of such workers.
It is customary for a vendor to warrant that it has paid all employee entitlements required by law, however, if the warranty is untrue, you will have to pursue the vendor to seek recovery of any loss suffered as a result. The warranty will not alleviate your liability to pay the employee entitlements yourself.
Therefore, it is best to conduct proper due diligence on the employee contracts and arrangements to identify any risk before entering into the transaction. If any risks are identified, then strategies can be considered to deal with them.
4. Seek legal advice
As Dental Corporation v Moffet demonstrates, it can be easy to blur the lines between employees and independent contractors. These issues should be on your radar:
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- when acquiring a business and its workers;
- when considering incentive schemes for your workers.
Not understanding the distinction between employee and independent contractor can be costly, so it pays to seek advice early.
If you are considering acquiring a business, please contact our M&A team to see how we may be able to help.
