Classifying workers: Employees or independent contractors

Late last year, the Australian Taxation Office (ATO) introduced Taxation Ruling 2023/4 and PCG 2023/2, aiming to clarify the classification of workers as either employees or independent contractors for PAYG purposes.

Here’s a simplified overview of the key points from the ruling.

Understanding ‘Employee’ within the TAA

The term ’employee’ under the Taxation Administration Act (TAA) lacks a precise definition, necessitating a thorough grasp of its ordinary meaning. This ruling elucidates that determining a worker’s status as an employee entails an objective evaluation of the overall relationship between the engaging entity and the worker. It emphasises the importance of interpreting the employment contract’s terms, highlighting that the terms established at the contract’s inception are fundamental in defining the employment relationship.

Interpreting Contracts and Legal Rights

The ruling stresses the significance of interpreting the employment contract based on established principles. It emphasises that this analysis should occur when the contract is formed, considering any external events or circumstances known to both parties that might indicate the contract’s purpose. However, once the terms of the contract are established, evidence of subsequent conduct or work practices is generally not relevant for determining the legal relationship between the parties.

Exceptions and Contract Performance

While the ruling underscores the importance of the written contract, it acknowledges exceptions. Evidence of contract performance may be considered under general contract law principles, allowing parties to establish the contract’s formation, identify oral terms, demonstrate subsequent agreement variations, challenge the contract’s validity, or establish legal, equitable, or statutory rights or remedies. This approach ensures a fair assessment of the contractual relationship while upholding the integrity of the written agreement.

Determining Employment Status

The ruling offers guidance on determining whether a worker is an employee of the engaging entity by focusing on the worker’s role within the business. Rather than relying on a checklist, a holistic consideration of the contract terms is recommended. It emphasises qualitative appreciation and acknowledges the varying importance of details in different situations. The ruling also discourages reliance solely on labels used to describe the relationship, asserting that legal rights and obligations are what truly define it.

Independence and Business Structure

Contrary to common belief, the ruling clarifies that a worker conducting their own business, even with an Australian business number, may still be considered an employee in another business. This distinction recognises the complexity of modern work arrangements and the coexistence of independent business activities and employment relationships.

Importance of Legal Rights over Labels

The ruling dismisses the significance of labels chosen by parties to describe their relationship, emphasising that the characterization of the relationship depends on the legal rights and obligations involved. Labels inconsistent with these rights and duties are deemed irrelevant, highlighting the importance of understanding the substance of the contractual relationship.

Non-Employment Relationships

Lastly, the ruling stipulates that arrangements structured as payments for services other than employment, such as leases or bailments, do not establish an employment relationship for TAA purposes. This acknowledgment of diverse business structures ensures that the taxation framework accommodates various commercial arrangements.

In Conclusion

Taxation Ruling 2023/4 and PCG 2023/2 provide a comprehensive framework for determining employment status under the TAA. They emphasise the ordinary meaning of ’employee’ and the crucial role of contractual interpretation. The ruling underscores the need for a holistic assessment of the employment relationship, discouraging reliance on labels and emphasising the importance of legal rights and obligations.

Read the full taxation ruling here:

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The information in this paper is not advice. The information in this paper is intended to be educational only. No person should rely on the educational information in this paper in relation to their taxation or financial affairs. You should only undertake transactions following the provision of advice from a suitably qualified adviser who has considered the particular facts involved with your circumstances.