The Difference Between Independent Contractors and Employees

Last revision: Last revision:25 April 2024
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1. Introduction

Significant changes have been happening in the Philippine workforce over recent years as more freelancers and professional independent contractors enter the market. It is becoming more important for businesses to know the difference between employees and independent contractors in order to properly comply with legal requirements. Businesses should never hire employees under the guise of a contract with an "independent contractor" to circumvent labor laws.

An example of circumvention of labor laws is hiring independent contractors so that the employer won't have to pay or give benefits that are mandated by the labor laws, when, in fact, the "independent contractors" are actually employees under the law.

2. Finding the Distinctions between an Employee and an Independent Contractor

The four-fold test is used to determine whether a person is an employee or an independent contractor. In Alba vs. Espinosa, et. al (G.R. No. 227734, 9 August 2017), the Supreme Court asked the following questions to resolve the case before them:

1. Does the employer have the power to select and hire an employee?

2. Does the employer pay wages?

3. Does the employer have the power to dismiss the employee?

4. Does the employer have the power to control the employee's conduct? Specifically, does the employer have the power to control both the end or the goal and the manner and means to achieve the end or the goal?

If the answer is "yes" to all the questions, then an employer-employee relationship exists. If an employer-employee relationship exists, then one person is an employer and the other is an employee. If an employer-employee relationship does not exist then their relationship could be that of a client and an independent contractor. This guide will explain each of the tests in detail.

2.1 Power to Select and Hire

The power to select and hire employees is a pretty straightforward test. If a person or organization, such as a corporation or a partnership, has the power to choose who will work for them, then they have the power to select and hire employees.

2.2 Payment of Wages

The test of whether wages are paid is also straightforward. However, it should be noted that the name by which the "wages" are called or the method of computing the wages is not the basis of an employer-employee relationship.

For example, a person who gets paid for every button that they sew and a person whose job is to sew buttons for 8 hours a day, regardless of their output, may both be considered employees.

2.3 Power to Dismiss

The power to dismiss asks the question: "Does the employer have the power to dismiss an employee?" Dismissing an employee is basically telling an employee that they no longer work for the employer and so the employer-employee relationship is terminated.

2.4 Power to Control

The power to control is the most important test in determining whether there is an employer-employee relationship. It is usually called the "control test". In determining whether there is an employer-employee relationship, the power to control must relate to both the end or the goal and the method and manner of achieving the end or goal.

There are two types of control that a person can exercise over another in terms of work. The first is when a person establishes guidelines in order to accomplish the work.

An example is when a corporation hires a programmer to build a website for their business. The corporation, or its representatives, may determine the design, color scheme, words, and photos that will go in the website and the deadline but the programmer will have control over the method or manner of building the website such as the time when they will work on the website, the program they will use, and the code that they will write. In this case, the programmer is an independent contractor since the control does not extend to the method and manner of achieving the end or goal.

The second is when a person fixes a methodology that has to be strictly followed in accomplishing the work.

An example is when a person is hired as a programmer for an advertising agency. The programmer is required to report for work every Monday-Friday from 9:00 a.m. to 6:00 p.m. The programmer's main job is to build websites for the agency's clients. The programmer's work is reviewed by the agency and the program and computer that they use are dictated by the agency. In this case, the programmer is an employee of the advertising agency since the agency can control both the end or goal and the method and manner of achieving the end or goal.

It should be noted that it is not necessary that the employer exercises control as long as the option to control is present, and then an employer-employee relationship is established.

3. Significance of Differentiating Employees and Independent Contractors

It is important to differentiate employees from independent contractors because they are treated differently under the law. Employers are bound to comply with the labor laws of the Philippines in regards to their employees while there is no such obligation when it comes to clients and the independent contractors that they hire.

3.1 Payment of Wages and Contributions:

Employers are required to pay wages to their employees. Said wages should comply with the minimum wage set by law. They are also required to pay the employer's share for the employee's SSS, Philhealth, and Pag-Ibig contributions.

The client of an independent contractor has no such obligations. The payment made to the independent contractor is the compensation agreed upon in the contract between the client and the independent contractor. The independent contractor also pays their own contributions to the SSS, Philhealth, and Pag-Ibig.

3.2 Benefits:

Employees get certain benefits under the law that independent contractors do not.

Examples are overtime pay, 13th-month pay, holiday pay, and premium pay, among others. Certain also get other non-monetary benefits such as the Service Incentive Leave, maternity leave, paternity leave, parental leave, etc.

On the other hand, independent contractors are not entitled to these benefits.

3.3 Termination of Relationship:

The procedure and the basis of terminating the relationship with an employee and an independent contract greatly differ and have different consequences.

3.3.1 Terminating an Employer-Employee Relationship:

An employer may only dismiss an employee for reasons stated under Articles 297, 298, and 299 of the Labor Code. Causes for termination under Article 297 are usually because of the actions or omissions of the employee such as:

  • Serious misconduct or willful disobedience of the lawful orders of the employer that are connected to the work of the employee;
  • Gross and habitual neglect of duties;
  • Fraud or willful breach of trust;
  • Commission of an offense against the employer or his family members or authorized representative;
  • Other analogous causes which must be stated in the employer's rules and regulations or policies.

On the other hand, causes for termination under Article 298 are usually due to changes in the employer's circumstances such as:

  • Installation of labor-saving devices;
  • Redundancy;
  • Retrenchment or downsizing to prevent more losses to the employer;
  • Closure or cessation of business of the employer.

Finally, Article 299 allows an employer to dismiss an employee when the employee is suffering from any disease and their continued employment is not allowed by law or is detrimental to the employee's health or the health of his co-workers.

The employer is required to give two written notices to terminate the employer-employee relationship in all cases of dismissal. This is also called the twin notice rule.

For dismissal due to causes under Article 297, the employer must give a first notice which informs the employee of the acts or omissions for which he might be dismissed. The employee must be given an opportunity to be heard and defend themselves. If the employer still decides to dismiss the employee, the employer must give a second written informing the employee of the employer's decision to dismiss the said employee.

For dismissal due to causes under Articles 298 and 299, the employer must give a written notice to the employee and a second written notice to the appropriate regional office of the Department of Labor and Employment at least 30 days before its effectivity.

Failure to give the required notices may result in the payment of damages by the employer.

On the other hand, an employee should usually give a written notice 1 month in advance of the date when they will resign.

3.3.2 Terminating a Contract with an Independent Contractor:

Termination of a service agreement involves ending a contractual relationship between parties engaged in the provision of services, such as between a service provider (e.g., contractor, consultant) and a client (e.g., company, individual).

Termination of employment is governed by the Labor Code of the Philippines, as well as other relevant labor laws and regulations, while termination of a service agreement is governed by the terms and conditions specified in the service agreement itself, as well as applicable contract law principles.

4. Conclusion

Differentiating between an employee and an independent contractor is crucial for both employers and workers due to the distinct legal obligations and entitlements associated with each classification. The four-fold test, offers a structured approach to making this determination, focusing on the power dynamics and control exerted by the employer over the worker.

By scrutinizing factors such as the ability to select and hire, payment of wages, power to dismiss, and control over the work process, employers and authorities can discern whether an employer-employee relationship exists or if the arrangement is that of a client and an independent contractor.

A clear understanding of the differences between employees and independent contractors promotes fairness, legal compliance, and the protection of rights and entitlements for all parties involved in the employment relationship. Therefore, adherence to the principles outlined in the four-fold test is essential for establishing the correct classification and ensuring appropriate treatment under the law.

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