What is sham contracting? A guide for Australian employers hiring offshore

Sham contracting is when a business tells a worker they are an independent contractor when the relationship is really employment, and the business cannot show it reasonably believed the worker was a contractor. It is prohibited under sections 357 to 359 of the Fair Work Act 2009, and the Fair Work Ombudsman lists maximum penalties of up to $546,000 per contravention for larger businesses. If you are hiring offshore, the same principle applies on the Philippine side: the label on the contract does not decide what the relationship is.

This guide covers the Australian law, the tax and super angle, and what changes when the person you hire lives in the Philippines. It is general information. Confirm your own situation with an Australian employment lawyer, and with a Philippine employment lawyer for any offshore hire.

What does the Fair Work Act say about sham contracting?

The sham contracting provisions are in three sections of the Fair Work Act 2009. Each is a civil remedy provision, which means a court can order penalties. In short, a sham contracting arrangement is unlawful when an employment relationship is dressed up as an independent contracting arrangement.

• Section 357, misrepresentation. An employer must not represent to an individual that their contract of employment is a contract for services as an independent contractor. There is a defence if the employer proves that, when it made the representation, it reasonably believed the contract was a contract for services. In deciding whether the belief was reasonable, the court must consider the size and nature of the business.
• Section 358, dismissal. An employer must not dismiss, or threaten to dismiss, an employee in order to engage them as an independent contractor to do the same, or substantially the same, work.
• Section 359, false statements. An employer must not make a statement it knows is false to persuade a current or former employee to become a contractor doing the same, or substantially the same, work.

The Fair Work Ombudsman’s own example is a business that tells a temporary worker to get an ABN and invoice for his time, while knowing he will work set hours, under direction, with the company’s tools and no ability to delegate. That is the pattern to avoid.

Putting a third business in the middle does not get around the law either. In Fair Work Ombudsman v Quest South Perth Holdings (2015), Quest’s housekeepers were told they were independent contractors of a labour hire business, while they kept doing the same work for Quest. The High Court unanimously held that section 357 also prohibits misrepresenting an employment contract as a contract for services with a third party. That matters if you are offered a “contractor” set-up through an intermediary.

What is the difference between an employee and an independent contractor?

An employee works in your business, under your control, and gets minimum employee entitlements. An independent contractor runs their own business, provides services under a contract for services, and is paid what the contract says. The Fair Work Ombudsman says contractors don’t get employee entitlements such as minimum pay rates or paid leave.

	Employee	Independent contractor
Pay	At least the minimum wage, award or agreement rate	Fees negotiated in the contract, no minimum rate
Leave	Paid annual leave, personal/carer’s (sick) leave, long service leave and unpaid parental leave under the National Employment Standards	No leave entitlements
Income tax	The employer withholds PAYG, so income tax is deducted from pay	Pays their own income tax
Superannuation	The employer pays superannuation contributions	Usually makes their own, unless paid mainly for their labour
Tools and financial risk	The business supplies tools and carries the risk	Usually uses their own tools and carries the financial risk
Control	The business directs how, when and where the job is done	Decides how the task is done

No single factor decides it. The court weighs the factors together, as the next section explains.

How do you tell an employee from a contractor after Personnel Contracting?

In February 2022 the High Court decided CFMMEU v Personnel Contracting. A young labourer had signed an agreement describing him as a “self-employed contractor”. The High Court held he was an employee anyway. Its summary notes that choosing the label “contractor” did not change the character of the relationship. The majority also held that where the parties had put their whole relationship into a written contract, the court should look mainly at the rights and obligations in that contract.

Parliament changed that position. From 26 August 2024, section 15AA of the Fair Work Act says the question is decided by “the real substance, practical reality and true nature of the relationship”. The court must look at the totality of the relationship, including how the contract is performed in practice, not just its written terms. The section’s note says it responds directly to Personnel Contracting and the companion Jamsek case.

The Fair Work Ombudsman calls this the whole of relationship test. It applies to constitutionally covered businesses, which generally means a business with “Pty Ltd” or “Ltd” in its name. Sole traders and partnerships in the referring states still use the start of relationship test, which looks at what the parties agreed. Either way, the Ombudsman lists the same factors:

• how much control the business has over how the work is done
• who carries the financial risk
• who supplies the tools and equipment
• whether the worker can delegate or subcontract
• how the hours are set
• whether the work is expected to continue indefinitely

Workers who earn above the contractor high income threshold, $190,100 from 1 July 2026, can opt out of the whole of relationship test.

What changed in 2024?

Two changes from the Closing Loopholes reforms matter most for employers:

1. A tougher defence, from 27 February 2024. The old defence asked whether the employer knew, or was reckless about, the true position. The Fair Work Ombudsman says it has been replaced with a reasonableness test. You now have to prove you reasonably believed the worker was a contractor at the time.
2. A new definition of employment, from 26 August 2024. This is the whole of relationship test above. The Ombudsman notes that it does not change the meaning of employee in other laws such as tax, superannuation and workers compensation.

What are the penalties for sham contracting?

The Fair Work Ombudsman lists these maximum penalties for each contravention:

Who	Maximum penalty per contravention
Individuals	$21,840
Businesses with fewer than 15 employees	$109,200
Larger businesses	$546,000

Those are Fair Work penalties only. The ATO treats misclassification separately.

Penalties are not the only cost. Under section 545 of the Fair Work Act, the Federal Court or the Federal Circuit and Family Court of Australia (Division 2), which continues the former Federal Circuit Court, can make any order it considers appropriate for a contravention, including compensation for the worker’s loss. Section 546 penalties can be ordered on top of that. Orders for underpayments are limited to the six years before the proceedings started.

What do workers miss out on in a sham contracting arrangement?

The Fair Work Ombudsman says sham contracting arrangements are sometimes set up to avoid paying legal entitlements to employees. In a March 2026 joint media release, the ATO said workers treated as contractors when they are really employees miss out on super, overtime, public holiday penalties, allowances, leave entitlements and basic workplace protections.

The National Employment Standards set the minimum employee entitlements that every employee in the national system must get, whatever their contract says. They include:

• annual leave
• personal/carer’s leave (sick leave), compassionate leave and family and domestic violence leave
• parental leave, which is unpaid leave with related entitlements
• community service leave and long service leave
• public holidays, notice of termination and redundancy pay
• superannuation contributions

A sham contractor gets none of these, and the business is exposed to claims for them later.

What are the warning signs of a sham contracting arrangement?

The Fair Work Ombudsman’s examples and the ATO’s data checks point to the same signs:

• the worker is told to get an ABN and invoice, but works like an employee
• the business sets the hours, supplies the tools and directs the work
• the worker can’t delegate and carries no financial risk
• an employee is dismissed, or threatened with dismissal, and re-engaged as a contractor to do the same work
• the contractor works almost exclusively for one business

The ATO and the Fair Work Ombudsman are actively looking. In their March 2026 media release, the ATO said that through the taxable payments annual report it had visibility in 2024–25 of almost 185,000 businesses making payments to more than 1.4 million contractors, totalling over $507 billion. That data is matched against tax returns, ABN records, super reporting and Single Touch Payroll. The Fair Work Ombudsman said it had sham contracting investigations on foot in sectors such as building and construction and road transport.

Who can help with a sham contracting concern?

• The Fair Work Ombudsman. Workers who think they are in a sham contracting arrangement can contact the Ombudsman’s Infoline on 13 13 94. The Ombudsman can’t tell you if you are a contractor or an employee, and suggests legal advice for that.
• The Fair Work Commission. A contractor earning below the contractor high income threshold, under a services contract entered into on or after 26 August 2024, can apply to the Commission about unfair contract terms. The Commission can cancel or change terms it decides are unfair.
• The courts. Contractors can apply to the Federal Court or the Federal Circuit and Family Court of Australia for a review of their contract under the Independent Contractors Act 2006, where the contract was entered into before 26 August 2024 or they earn at least the high income threshold.

For a business, the better step is to get advice before the arrangement starts, not after a complaint.

What is the ATO and superannuation angle?

The Australian Taxation Office applies its own tests for tax and super, so a worker can be a contractor for one purpose and an employee for another. The ATO says that if you pay a contractor mainly for their labour, they are an employee for super guarantee purposes, and it does not matter whether they have an ABN. Its example is a freelance admin assistant with an ABN who invoices weekly for hours worked. She is an employee for super because the contract is for her labour and she is paid by the hour.

If you get it wrong, the ATO lists PAYG withholding penalties for failing to withhold tax, and the super guarantee charge, which it says is more than the super you would have paid. Additional penalties of up to 200% of the charge can apply.

Does calling an overseas worker a “contractor” settle it?

No. Hiring someone overseas changes which law applies, not whether the label decides the question.

On the Australian side, the reach of the Fair Work Act is limited. Section 35 of the Act says an employee engaged outside Australia to perform duties outside Australia is not an “Australian-based employee” merely because their employer is Australian. The ATO also says you do not have to pay super for non-resident employees who work outside Australia. So for a Philippine resident engaged in the Philippines to work there, the Australian rules generally fall away. Our guide to superannuation for offshore staff covers that in more detail.

The Australian risk comes back if:

• the worker is actually in Australia, or moves here
• you relabel an existing Australian employee as an offshore contractor
• the person is an Australian resident working remotely from overseas

Any of these needs advice before you act.

How does the Philippines decide if someone is an employee or a contractor?

Philippine courts apply what is called the four-fold test. In Consulta v Court of Appeals (2005), the Supreme Court set out the four elements of an employer-employee relationship:

1. the power to hire
2. the payment of wages
3. the power to dismiss
4. the power to control

The Court said the power to control is the most important of the four. That is the problem with most “contractor” arrangements Australian businesses set up offshore. If you choose the person, pay them a monthly amount, can end the arrangement, and direct how and when they work, all four elements can point to employment.

Philippine law is also wary of intermediaries that simply supply workers. Article 106 of the Labor Code describes “labor-only” contracting, where a person supplying workers lacks substantial capital or investment and the workers do activities directly related to the client’s main business. In that case the intermediary is treated as an agent, and the client is responsible to the workers as if it had hired them directly.

If a Philippine contractor arrangement is found to be employment, the worker may be owed employee entitlements such as 13th month pay and statutory contributions. We have not found a reliable published figure for how often these claims succeed, so we won’t give one. The point is that the risk is real and sits with you.

Direct hire, EOR or contractor: which structure fits?

The safest structure is the one that matches how the work will really be done. Here is how the three common options compare for a Philippines-based hire.

	Contractor	Direct employment	Employer of record (EOR)
Who is the legal employer	Nobody (services contract)	You	The EOR
Fits when	The person runs their own business, sets their own methods and can work for others	You can meet Philippine employer obligations yourself	You want to direct the work without running Philippine payroll
Misclassification risk	Highest if you control the work	Low if run properly	Low, the EOR holds the employment
Ongoing fee	None	None	Tarino EOR: $387 per employee per month

A contractor agreement suits genuinely independent work, such as a designer who quotes per project and works for several clients. It suits a full-time role on your hours far less well.

If you want someone working only for you, under your direction, an employer of record can make the paperwork match the reality. Tarino EOR, powered by Deel, becomes the legal employer in the Philippines and handles the contract, payroll, tax and leave. You direct the day-to-day work. It costs $387 per employee per month, and AUD pricing may vary slightly with exchange rates.

Our offshore hiring compliance guide sets out the practical safeguards that apply whichever model you choose.

Where Tarino fits

Tarino recruits. We start with 1,000+ candidates per role, screen them through CV, video, practical and interview stages, and send you a shortlist of 3–4, typically within about 2 weeks. You choose the person and the structure, with your own advisers. The fee is $5,000 excl. GST per placement ($250 upfront, credited back when you hire, plus $4,750 on hire), with no monthly fee unless you add Tarino EOR. See pricing and how it works.

Before you sign anything, confirm the structure with an Australian employment lawyer and a Philippine employment lawyer. If you want to talk through the hiring side, book a 30-minute call.