Employee or Contractor in 2026?
Engaging a new team member is a complex process.
Apart from negotiating pay rates and conditions, you also need to assess whether they are the correct ‘fit’ for your organization and culture.
One of the boxes to be ‘ticked’ as part of this process is for both parties to agree on whether you are engaging the person as an employee or as a contractor.
How can you correctly determine whether the person you engage is an employee or a contractor?
While a person can’t be considered a contractor by simply labelling them so, two High Court decisions in early 2022, in relation to Fair Work Act 2009 matters, indicated that the written agreement between the parties is a significant determinant of the relationship. This was on the basis that it was not a sham agreement, the parties had operated under the agreement and there had not been material changes to the agreement. These cases were Construction, Forestry, Maritime, Mining and Energy Union v Personnel Contracting Pty Ltd [2022] HCA1 and ZG Operations Australia Pty Ltd v Jamsek [2022] HCA2.
Both decisions related to past employees/contractors that were keen to alter the relationship under which they had previously been engaged after their employment/contractor agreement ceased.
The ATO issued taxation Ruling TR 2023/4 Pay As You Go Withholding – Who is an Employee? on 6 December 2023, which takes into consideration that case law.
This ruling is a departure from the ‘totality of the relationship’ previously considered by the ATO as determinative when identifying the differences between employees and contractors.
TR 2023/4 focuses on the nature of the contractual and legal understanding between the parties at the commencement of their engagement. The ATO applies this ruling to determine Pay As You Go Withholding relationships.
From paragraph 9 of the ruling:
9. Where the worker and the engaging entity have comprehensively committed the terms of their relationship to a written contract and the validity of that contract has not been challenged as a sham, nor have the terms of the contract otherwise been varied, waived, discharged or the subject of an estoppel or any equitable, legal or statutory right or remedy, it is the legal rights and obligations in the contract alone that are relevant in determining whether the worker is an employee of an engaging entity.
While it is the intention of the parties at the time of entering into the agreement that is initially determinative, how the agreement is actually performed may assist in establishing the actual agreed terms, and where this differs from the contractual or legal terms, may result in the validity of the written agreement being challenged.
The ruling also notes that engaging someone with their own business and ABN does not guarantee that the person should be considered a contractor – an independent contractor may also be an employee of another business.
While the above discussion is the ATO position, Fair Work Australia have a different view.
The Fair Work Legislation Amendment (Closing Loopholes No. 2) Act 2024 received Royal Assent on 26 February 2024, with its key employee/contractor provisions commencing on 26 August 2024. This Act introduced a new section 15AA into the Fair Work Act, which requires the Fair Work Commission to apply a 'whole of relationship test' — restoring a multifactorial approach that considers not just the written contract, but the real substance, practical reality and true nature of the working relationship
This means that the legal test for employee/contractor status now differs depending on which law applies:
• For PAYG withholding purposes (ATO/TR 2023/4): the written contract remains the primary determinant (where it is comprehensive and genuine).
• For Fair Work Act purposes (from 26 August 2024): the whole of relationship test applies, looking at how the relationship actually operates in practice.
• For Superannuation Guarantee purposes: the common law contractual approach continues to apply (this follows the ATO position).
If the agreement was an oral agreement, or where the agreement was incomplete or had been contested by either of the parties, the Court may look at the previous ‘multifactorial’ approach, as evidenced in the Australian Taxation Office employee/contractor decision tool.
Below is information from their website showing the key differences between employees and contractors, with the Common Indicia being the more traditional ATO approach to be applied to each contract entered into:
The critical differences between an employee and independent contractor are:
- an employee serves in your business, and performs their work as a representative of your business
- an independent contractor provides services to your business and performs work to further their own business.
Common indicia
Analysis of the indicia must be done by reference only to the legal rights and obligations
that arise from the contract you enter into with your worker.
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Employee |
Contractor |
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Control: your business has the legal right to control how, where and when the worker does their work. |
Control: the worker can choose how, where and their work is done, subject to reasonable direction by you. |
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Integration: the worker serves in your business. They are contractually required to perform work as a representative of your business.
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Integration: the worker provides services to your business. The worker performs work to further their own business. They may choose to present themselves as part of your business. |
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Mode of remuneration: the worker is paid either: · for the time worked · a price per item or activity · a commission.
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Mode of remuneration: the worker is contracted to achieve a specific result, and is paid when they have completed that result, often for a fixed fee.
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Ability to subcontract or delegate: the worker must perform the work themselves and cannot pay someone else to do the work for them. |
Ability to subcontract or delegate: the worker is free to delegate to others who the worker will pay to complete the work on their behalf. |
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Provision of tools and equipment: your business provides all or most of the equipment, tools and other assets required to complete the work, or the worker provides all or most of the tools, but your business provides them with an allowance or reimburses them for expenses incurred. |
Provision of tools and equipment: the worker provides all or most of the equipment, tools and other assets required to complete the work, and you do not give them an allowance or reimbursement for the expenses incurred. The work involves the use of a substantial item that your worker is wholly responsible for. |
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Risk: the worker bears little or no risk. Your business bears the commercial risk for any costs arising out of injury or defect in their work. |
Risk: the worker bears the commercial risk for any costs arising out of injury or defect in their work. |
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Generation of goodwill: your business benefits from any goodwill arising from the work of the worker. |
Generation of goodwill: the worker’s business benefits from any goodwill generated from their work, not your business. |
Authorised by the Australian Government, Canberra.
This list is not meant to be a ‘box ticking’ exercise to determine whether a person is correctly engaged as an employee or a contractor, but each element is to be considered as part of the totality of the arrangement, given a weighting to determine the overall outcome.
At the same time the ATO issued TR 2023/4, they issued a Practical Compliance Guideline PCG 2023/2, detailing the ATO compliance approach to classifying workers as employees of contractors.
The PCG uses the following risk framework:
• Very Low Risk: where formal written agreement is in place and the worker is clearly a contractor based on the indicia. ATO unlikely to review.
• Low Risk: Arrangement is mainly consistent with the contractor indicia.
• Medium Risk: Arrangement has mixed features — some consistent with employment, some with contracting. ATO may review.
• High Risk: Arrangement strongly resembles employment but the worker is labelled a contractor. ATO will likely review and may audit.
Seven criteria are assessed: the basis of payment; who bears financial risk; who provides tools and equipment; whether the worker can subcontract; whether the worker has an ABN; whether the worker can work for multiple businesses; and the level of integration into the business.
Businesses in the medium or high-risk zones should review their arrangements, putting in place agreements that correctly reflect either the employer or contractor relationship.
Fair Work Changes – Further Information
The Fair Work Legislation Amendment (Closing Loopholes No. 2) Act 2024 introduced the following key changes, generally effective 26 August 2024:
- A new ‘whole of relationship’ test – the real substance, practical reality and true nature of the working relationship must be considered;
- Opt-Out for high income contractors, earning above the annual threshold ($183,000 from 1 July 2025), where a written ‘Opt-out’ notice is provided;
- Fair Work can set aside or vary a services contract that contains unfair terms;
- Sham contracting laws have been tightened – employers must now show they ‘reasonably believed’ the arrangement was a genuine contracting arrangement;
- A new category of ‘regulated workers’ was created to cover independent contractors in the gig economy.
Why is the Employee/Contractor Label Important?
The status of each worker is as important for them as it is for you, as it determines your liability as well as their overall remuneration, statutory protections and may determine ongoing health assistance for workplace injuries.
The main ATO payment obligation that sets employees apart from contractors is the requirement to withhold PAYGW from salary and wages, although in some industries there are also PAYG withholding obligations for contractors.
The other major employer on-costs - Federal superannuation guarantee payments, State based Workcover/workers compensation and payroll tax – can also apply to contractors where ‘mainly labour’ is supplied – you need to check the specific definitions under each of these pieces of Federal and State legislation to determine whether there is a liability for your contractors.
The ATO Single Touch Payroll system has enabled real time reporting of wages payments with payroll information being shared with a number of Government agencies (such as Services Australia). This automated system enables disaggregated, mandated reporting of salary and wages (separating the types of payments), payments to directors etc, and also allows employers to report where there is a voluntary agreement or labour hire arrangement. Other reporting of contractor payments is not currently mandatory.
The next phase, Payday Super, where superannuation guarantee payments are to be received by the employee’s superannuation fund within 7 business days of the wages being paid, will be fully implemented from 1 July 2026. The current rate for Superannuation Guarantee is 12%, and while there are some carve outs for under 18 year olds not working more than 30 hours per week, for all others it applies from the first dollar of wages earned.
Further ATO information regarding Superannuation Guarantee is available here:
Further ATO information regarding Payday Super is available here:
Which Tests are to be Applied?
You can see from the above discussion that there are differences between the Federal taxation and Fair Work Laws, even before there is consideration of the Sate based taxes. Below are some notes that may assist:
- For Pay as You Go Withholding, apply ATO 2023/4 – a written contract reflecting the actual relationship between the parties will be an important indicia;
- For Superannuation Guarantee – the ATO will provide guidance. Where the contract is wholly or principally for the labour of the individual, even where an ABN is provided, the relationship may be considered an employment relationship, and superannuation will be payable;
- For Fair Work, genuinely consider the ‘whole of relationship test’, noting that high earning contractors may ‘opt out’;
- For State based Payroll Tax and Workers Compensation, check your State’s legislation for their definitions.
There are some relationships that could be considered both employment and contracting arrangements, depending upon the lens they are viewed through.
If you are planning to engage a new person as either an employee or contractor, and there is some uncertainty regarding their status, we recommend that you seek legal advice to ensure that you enter into an agreement (either employment or contracting) that reflects the agreed terms of the relationship, and the actual work undertaken is consistent with that agreement.
If this article raises any questions in relation to your business that you would like to discuss, please contact our office.
Michelle Wilson
March 2026
