Put simply, this is one of the most fundamental and important questions for those thinking of engaging people and, indeed, in employment law. The modern phenomenon of the so-called ‘gig economy’ has brought the issue into sharp relief.
Why is the distinction so important? Well, getting the distinction right from the outset can make difference between engaging an employee lawfully, and breaking the law in a number of ways. It can also make a big difference to the cost of that engagement.
Employing people can be much more onerous than engaging them as consultants or freelancers (we use the term interchangeably). Employees have a whole raft of rights that pure freelancers do not. These include: the right not to be unfairly dismissed; the right to redundancy payments; the right to a written contract of employment; maternity and paternity rights; holiday rights; rights in respect of maximum working time; rights not to suffer detriment for a number of reasons, including for being health and safety representative; and the right to a written reason for dismissal.
Pure freelancers have none of these rights.
Discrimination is a different matter, and although the anti-discrimination legislation gives protection to those “in employment” the definition of “employment” in this legislation is quite wide. This definition can cover freelance consultancy provided it is for “personal service”.
Another important aspect which employees benefit from that pure consultants do not is health and safety protection. This includes a duty to pay statutory sick pay, protection under the Health and Safety at Work Act 1974, and protection under a compulsory insurance policy which employers have to put in place.
As freelance consultancies are frequently found in the creative industries, intellectual property is an important consideration. Copyright automatically passes to the employer in an employment situation, but does not do so in a consultancy situation.
Furthermore, a company who is employing will benefit from a number of implied contractual terms which those hiring a consultant will not. So, if a business is employing someone, there is an implied obligation on the part of the employee of fidelity, obedience, to work with due care and diligence, to give reasonable notice of termination (this will cut both ways), to act within the bounds of trust and confidence (again, this will cut both ways) and a duty not to damage the employer’s interest. Intellectual property will also usually pass to an employer automatically.
Because so much is automatically a part of an employment contract, you will often find that consultancy agreements need to be a lot longer, because they need to write these obligations in. Employment contracts do not necessarily need to mention these obligations at all for them to exist.
Worker status: workers stand somewhere in between employees and proper freelancers (or consultants). They have some of the rights set out above (for instance rights to holiday and working time rights, discrimination rights and the right to an auto-enrolment pension), but not many of the important ones, such as the right not to be unfairly dismissed.
Tax: employers will need to pay their own national insurance contributions. Employees will also have to pay Income Tax. This is often the main reason why the parties would like the relationship to be freelance as opposed to employed.
Which relationship to choose? It is very important not to let the tail wag the dog. What matters is what the nature of the relationship actually is. If you give it the wrong name both parties can be involved in a great deal of illegal conduct. For instance, terminating an apparently freelance contract may lead to unfair dismissal claims if the correct procedure has not been followed and it turns out that that freelancer is in fact an employee. Paying the wrong tax can lead to problems with HMRC. Not paying holiday when it is due can lead to large back-claims.