Claiming to be self-employed doesn’t make you self-employed in the eyes of the law. HMRC and the courts can reclassify your subcontractors as employees if there is enough evidence that the relationship is one of employer-employee.
Having a contractual agreement between contractors and subcontractors helps remove ambiguity around the relationship. It demonstrates that neither party views the working relationship as one of employer and employee. This can prevent HMRC from challenging the employment status of your subbies.
Why should you have a contract for services?
A subcontractor agreement isn’t just there to appease HMRC. It has many benefits for construction firms and their subbies too. And if you want to work with subcontractors long-term without using payroll companies, it’s definitely worth having one in place.
Proves your service agreement with the subcontractor
The presence of a contract demonstrates that both you and your subbies understand the relationship to be on a client-supplier basis where you are the client and the subbies are supplying services in return for payment.
For example, Castle Construction was taken to tribunal in 2008 by HMRC over the employment status of their subcontractors. HMRC believed 314 of Castle’s subcontractors should be reclassified as employees.
Castle Construction had very basic contracts between themselves and their subcontractors. The judge determined that the presence of the contract demonstrated there was a shared understanding between the parties that “the worker is meant to be a self-employed subcontractor.”
Strengthens your case
If HMRC does open an enquiry, a contract can be used to back up your case. For example, if you say subbies can send a substitute to carry out work in their place, and it clearly states this in your contracts, and you can provide examples of times when a subcontractor has sent a substitute, it’s hard for HMRC to dispute it.
Reduces the risk of misinterpretation
Your agreement should outline the terms of the arrangement. This can cover everything from the agreed services and responsibilities of the subcontractor, to the rates of pay, expenses, required insurance cover, payment schedule, and dispute resolution.
Having a contract in place means everyone is clear on who is responsible for what from project to project and client to client. This minimises the risk of misunderstandings which could lead to legal action or payment disputes.
Manages risks and liabilities
What happens if your subcontractor doesn’t complete a client project to the required standards? Who is responsible for putting it right for the client? Are your subbies expected to make it right on their own time? Who will be liable for any associated costs? Will the subcontractor get paid for unsatisfactory work?
Putting a comprehensive agreement in place allows you to provide complete clarity of your subcontractor’s responsibilities regarding each project.
Outlines dispute resolution procedures
When you work with subbies long term, disputes can occur – disputes around payment, responsibility, or expectations. And they are much easier to resolve if you have a pre-agreed dispute resolution procedure outlined in your agreement.
Ensures clarity between you and your subcontractors
Contracts don’t just protect you from HMRC and the courts, they keep things clear between you and your subbies. No matter how good you think your friendship is with them, it’s always beneficial for both parties to know exactly where they stand so there can never be any misunderstandings.
The last thing you want is for disgruntled subcontractors to try making claims against your company for holiday pay or sick pay because they decide they should have been classed as employees after all.
Does a contract guarantee ensure you’ll win a case?
No. A contract alone is not enough to satisfy HMRC or the courts. If they find discrepancies between what your contract says and what happens in reality, the contract can be dismissed.
In the Castle Construction case mentioned above, the judge called out the right to substitution clause in Castle’s contracts, deeming it to be “nonsense”. He believed it was only included “to diminish the impression that the relationship is one of employment”.
Fortunately, he decided it was irrelevant because Castle had such a large network of subcontractors that they never needed subbies to provide substitutes anyway.
Castle Construction might have effectively appealed against HMRC, but not all construction firms are as successful.
In February 2022, an employment tribunal ordered a contractor to pay a ‘self-employed’ subcontractor almost £30K for unfair dismissal, unpaid wages, bonuses and notice, and unpaid annual leave. This contractor used a payroll firm to work with the subcontractor and still got caught out.
Can you appeal an employment status challenge without a contract?
To show we’re not completely biased regarding contracts, we thought we’d share two legal cases where contractors successfully won appeals against HMRC without having contracts in place.
JL Windows (2009)
JL Windows worked with between 10 and 20 subbies at any one time. Most of the work was “price work”, which was agreed upon in advance of each job. Workers got paid per day, and if there was money left once the work was complete, they would split the extra payment between them as a “bonus”.
HMRC took JL Windows to a tribunal, claiming their subbies should actually be employees and should have been paid as such.
The judge ruled differently.
Despite JL Windows not having any contracts between themselves and their subbies, the judge looked at the working relationship, considered previous case law, and looked in detail at the element of control.
The conclusion was: “JL Windows did not exercise a sufficient degree of control over the workers to make itself master. This is sufficient to decide that the workers were not employed under contracts of service.”
MAL Scaffolding (2006)
The MAL Scaffolding case concerned appeals around several individual cases. These individuals considered themselves self-employed, and MAL contracted them as such, but HMRC deemed them to be employees.
MAL Scaffolding had no contracts in place with their subbies, and the judge noted this. In the end, it was decided the absence of contracts was not “in any way intended for fraudulent or other illicit purposes” and that no “adverse conclusions should be drawn from the absence of the documents.”
The judge decided the lack of contracts backed up oral evidence he’d heard that neither the workers nor MAL Scaffolding had wanted any formal agreements. In his opinion, this suggested “arms-length relationships between independent contractors and not those of employer and employee.”
How did these contractors win their appeals?
It all comes back to past case law – in particular the case of ‘Ready Mixed Concrete (South East) Ltd v Minister of Pensions and National Insurance (1968).’
This is considered a leading case in UK case law as it makes the distinction between a contract of services and a contract for services, where a contract of services is one of employment.
The most important part of the judgment is as follows:
A contract of service exists if these three conditions are fulfilled.
- The servant agrees that, in consideration of a wage or other remuneration, he will provide his own work and skill in the performance of some service for his master.
- He agrees, expressly or impliedly, that in the performance of that service, he will be subject to the other’s control in a sufficient degree to make that other master.
- The other provisions of the contract are consistent with its being a contract of service.
The second part of this case law was particularly relevant in the cases of JL Windows and MAL Scaffolding. In both cases, the element of control was not significant enough for the relationship to be deemed as one of master and servant.
The three tests
Personal service looks at whether you expect the subcontractor to carry out the work personally or whether they can send a substitute in their place – we’ve covered it in detail in our article on the right to substitution.
Mutuality of obligation (MOO) is about expectations – for example, do you have an obligation to keep offering your subcontractors work, and do they have an obligation to accept it?
Judges use real-world evidence to determine whether a relationship falls foul of the three tests.
This is what was relied upon in the cases above. Contractors and subcontractors had to prove the working arrangement was genuinely one of subcontractor and contractor, not “master and servant” (employer and employee).
It is through the use of past case law and real-world evidence that Castle, MAL and JL were able to win their appeals.
Castle Construction, JL Windows and MAL Scaffolding might have effectively appealed against HMRC, but other contractors are not always as successful.
Why leave yourself open to risk when you can have a bespoke, watertight contract for services from HardHats for a few quid per subcontractor per week?
Get complete peace of mind with a HardHats contract
What that means is we’re so confident in our bespoke agreements that we’ll handle and defend any HMRC enquiries on your behalf. And if they do reclassify any of your subbies as employees, we’ll cover the associated costs.
And as if that wasn’t reason enough to work with us, we’ll take responsibility for getting your subbies to sign electronic agreements via text or email, saving you the headache of additional paperwork.
Unlike payroll companies, we don’t handle your payroll, meaning you keep control of your cash flow and your subbies don’t have to pay a fee to get paid.