It’s not uncommon for construction firms to use payroll companies to work with subbies. The payroll company essentially acts as an employment agency, creating a contractual barrier between the main contractor and their workers.
One of the main reasons construction firms work this way is to protect themselves from enquiries into the employment status of their workers. But does working with a payroll company really protect you or could they be leaving you exposed?
When you work with subbies through a payroll company, your contract is with them and you are paying for their services. The payroll companies have a contract with the subbies and the subbies are paid by that company.
However, if the courts decide that your contract with the payroll company is a sham, you will be liable for paying anything due to your subcontractors under employment law.
Real-world example
In February 2022, an employment tribunal ordered a contractor to pay substantial costs to a ‘self-employed’ subcontractor they worked with via a payroll company.
Here is a breakdown of what the contractor was instructed to pay:
- For unfair dismissal: £10,647.50.
- For breach of contract relating to unpaid wages: £900
- For breach of contract relating to the unpaid bonus: £2,556.25
- For breach of contract relating to unpaid notice: £2,700
- For unpaid annual leave under the Working Time Regulations: £12,000
That’s a pretty hefty bill considering the subbie wasn’t an employee. Surely, the fact the contract was with the payroll company, not the contractor, makes the payroll company liable, doesn’t it?
Turns out it doesn’t. The judge ruled that the contract with the payroll company was pretty much a sham and did not reflect the true working relationship.
Why does employment status matter?
HMRC is mostly interested in employment status for tax purposes. Self-employed people pay tax differently. An employee has income tax and national insurance deducted from their wage by their employer before they are paid. The employer then passes this on to HMRC.
Self-employed workers are responsible for their own tax affairs. They have to complete tax returns and then pay tax and national insurance to HMRC. Some subbies want to be self-employed for tax purposes because it could mean they pay less tax than they would if they were employed.
As you can imagine HMRC do not like people claiming they are self-employed for tax purposes alone and will clamp down on any companies they believe are disguising employees as self-employed workers.
What employment rights do self-employed subcontractors have?
Another reason employment status is important is that employees have certain employment rights. Employers must ensure these rights are met.
Under employment law, an employee must be paid at least minimum wage. They are also entitled to holiday and sick pay, parental leave and redundancy pay. Employment law also protects them from things like unfair dismissal.
Self-employed workers are not entitled to these benefits and do not have the same employment rights they would have if they were employed. However, if a subcontractor takes you to court claiming they believed they were an employee and the court rules in their favour, you could be liable for unpaid benefits (as proven in our example case above).
How is employment status determined?
There is not one specific thing that proves whether someone is genuinely self-employed or not. Employment status is determined by several factors.
When the employment status of a worker is in question, the courts will often use three things to determine whether the worker should be classed as employed or self-employed. These are known as the three tests and are:
- Mutuality of obligation
- Control
- Personal Service
These are not the only factors that will be considered when determining employment status, but they are important.
Mutuality of obligation (MOO)
Is there an obligation for the employer or contractor to provide work, and is there an obligation for the employee or subcontractor to accept it? In the case outlined above, the judge determined MOO between the contractor and the subcontractor, despite the contract being with the payroll company.
Level of control
Another key issue in our example case was the issue of control. The contract between the subbie and the payroll company stated the subbie would: ‘not be subject to any control by anyone as to the manner in which the services are provided, and the respondent will not exercise supervision…’
However, the judge found plenty of evidence that the subcontractor was receiving direction and supervision from the contractor.
Personal service
The test of personal services assesses whether the worker must personally perform work. In other words, does it have to be them, or can they send a substitute? In our example case, the judge determined that the contractor expected the subcontractor to personally carry out the work despite what the contract said.
How can you prove your subbies are genuinely self-employed?
If you only work with subbies on an ad-hoc basis, you probably don’t need to worry. However, if you work with subbies long-term and don’t want to use a payroll company, putting a written agreement in place is a good idea.
Having a formal agreement will go some way to supporting your case should HMRC ever question a subcontractor’s employment status. It demonstrates that both you and your subbies view the relationship as one of contractor and self-employed subcontractor.
As well as supporting your case around employment status, this also makes it difficult for a subcontractor to claim that they thought they were an employee.
What should be in a subcontractor agreement?
Your contract should outline the true working relationship between you and your subbies. Remember, as proven in our example case above, the courts do not take a contract at face value – they will look for evidence to support it. You should also cover the ‘three tests’ – mutuality of obligation, personal service and control.
Another thing that can help prove a subcontractor is genuinely self-employed is to demonstrate they are a business in their own right. And if they are a business in their own right, they should be able to make both a profit and a loss. If your contract states that they have to make good any defective work at their own cost, this shows they are at risk of loss.
Protect your business with HardHats
At Hardhats, we specialise in creating bespoke subcontractor agreements for the construction industry. We document the true working relationship between you and your subbies so there can be no misunderstandings around employment status.
Should HMRC ever question the employment status of your subbies, we’ll handle it on your behalf. And our contracts come with an insurance-backed guarantee.
Essentially, we take on your risk, but you keep control of your payroll (and cashflow). Find out how it works here or book a call to get started.