• Changing from Employee to Consultant: Pitfalls to Avoid

    Changing an individual’s working arrangements from employee to consultant may seem attractive; no employer National Insurance contributions to pay and greater flexibility for the individual. A win-win situation surely?

    Zoe Lagadec, employment law expert with Mulberry’s Employment Law Solicitors in London, explains why this can be a risky course of action for the employer and looks at ways to minimise the risks.

    Benefits to the employer

    Unless the individual also negotiates a significant increase in their pay, cost-saving is often a major motivation. Employers sometimes ask employees to change to consultants when business is slow, but the employer wants to keep their expertise and knowledge, without the overheads and responsibilities of employing staff. An older employee may wish to ease into retirement by working on a consultancy basis and if they have niche expertise, this can help the business through this transition. With the new breed of ‘virtual’ business, entrepreneurs frequently rely on a flexible workforce of consultants.

    Risks to the employer

    With the benefits come risks, both commercial and legal. Consultants frequently have portfolio careers, working for several businesses at the same time, including your competitors (although appropriate contract drafting should help protect your business). You lose the reliability of employees because a consultant can turn down your offers of work. Consultants are unlikely to feel the same loyalty or take the initiative in the same way as an employee who feels invested in your business, and building client relationships may be more difficult if consultants come and go.

    The legal risks are outlined below, as are the risks of HMRC coming after you if you wrongly categorise someone as a consultant.

    What is the difference between employees and consultants?

    There are three different employment statuses; employee, self-employed contractor (also known as consultant or freelancer) and worker. This area of law is complex and there is no single test to categorise an individual.

    There are key indicators though. Employees have to turn up for work; they cannot send a friend along instead or say they are not available for work. You control how they do their job and they are integrated into your business. A consultant can turn down a project or assignment and may be able to send a substitute. Worker status falls between employee and consultant. Workers still have to provide the service personally.

    Why does it matter?

    An individual’s employment status determines their employment rights. Employees have the greatest rights, including family-friendly leave and protection from unfair dismissal. Workers have just a few of the rights enjoyed by employees, such as the right to paid holiday and to be paid the national minimum wage. Consultants have very few employment rights.

    Employees and consultants are also taxed differently. HMRC uses similar tests to the employment law tests to determine an individual’s status for tax purposes. If HMRC considers that an employee has been wrongly categorised, it will try to recover unpaid tax and National Insurance contributions.

    Changing the contract may not be enough

    Changing the label given to the individual will not automatically change their status. A typical consultancy agreement declares that the individual is not an employee. If the contract reflects the reality of the new working arrangements, an employment tribunal would usually accept it at face value. However, if there is little change in the day-to-day reality of the working relationship since the individual worked as an employee, then an employment tribunal may well look beyond the wording of the contract and form its own view on status.

    But the individual was happy with the change

    Even if the individual seemed to accept the change from employee to consultant, and it may well be more tax-efficient for them, this does not stop them from later claiming that they are actually an employee or worker, in the event of a dispute.

    Claims may arise when the employer ends the relationship or another legal case on employment status hits the headlines and highlights to the individual that they could be missing out on something, such as holiday pay.

    How can I reduce the risks?

    Make sure the contract reflects the actual working relationship, and you should take care to review the working relationship regularly to make sure it is still one of contractor and client rather than employer and employee.

    Aim to offer work on a project-by-project basis, with breaks in between projects, rather than working with them continuously for an indefinite period. Pay a rate for the services they provide, rather than a fixed wage or salary.

    It is important to give the consultant plenty of autonomy and avoid making them part of your business. They still must do a good job, but you should not exercise much control over how they do it and you must allow the consultant to provide a substitute.

    We can assess the suitability of moving an employee to consultant, draw up an appropriate contract and advise you on how to reduce any risks. Please contact Zoe Lagadec on 0203 858 7965 or email zoe@mulberryssolicitors.com.  Mulberry’s Employment Law Solicitors has offices in London central and silicon roundabout and Brighton.

    This article is for general information only and does not constitute legal or professional advice. Please note that the law may have changed since this article was published.

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