Employees and commercial agents

Written by Steve Sidkin
19 July 05

Determining whether an individual is an employee or a commercial agent will usually be obvious – but as with many legal issues, things are not always that simple and there is a big “grey area” to navigate.  Fortunately guidance on this area has recently been given by the Court of Appeal in the case of Smith v Reliance Water.

Who is a commercial agent?

Regulation 2(1) of the Commercial Agents Regulations 1993 defines a commercial agent as:

“a self-employed intermediary who has continuing authority to negotiate the sale or purchase of goods on behalf of another person (the Principal), or negotiate and conclude the sale or purchase of goods on behalf of, and in the name of, that Principal”.

The key phrase to remember from this definition is that the individual is a “self-employed” intermediary.  He is therefore an independent contractor who enters into a contract for services – by selling the end product of his labour.  In contrast, broadly speaking, an employee can be defined as an individual who enters into a contract of service – namely, he sells his labour to his employer. 

So why do we care anyway?

It is of practical importance, particularly at the end of a commercial relationship to determine the status of an individual.

If an individual is an employee:

• • he can avail himself of a whole raft of ever increasing employment protection;
     
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  • it is also important for Inland Revenue purposes that the individual is taxed correctly;

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• • there is also the issue of vicarious liability – the general rule being that subject to certain exceptions, an employer is vicariously liable for the wrongdoings of his employees; and

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• • importantly, they fall outside of the scope of the Commercial Agent Regulations;

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In contrast, if an individual is an independent contractor falling under the definition of a commercial agent, upon termination of the relationship he may be able to claim:

• • an indemnity if one is provided for in the agency agreement, on the basis that the individual’s efforts will have a continuing benefit to the principal; or

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• • compensation for damage suffered as a result of termination of the agency agreement if the individual is deprived of commission which he would otherwise have earned if the agreement had been properly performed.

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• Depending on the circumstances, the individual may also be entitled to claim commission on transactions concluded pre or post-termination as well as so called back-commission.

So how do you tell if an individual is an employee or an independent contractor?

The House of Lords has developed a 3-limb approach to deal with this question:

1. Consider whether there is mutuality of obligation – namely, is the individual obliged to work and, in return, is the organisation obliged to pay him for his work?
2. Will the individual be subject to the control of the organisation, in particular with reference to the way in which the work is performed?
3. The third and final limb to consider is whether the other provisions of the contract are consistent with it being an employment relationship?

The first 2 limbs of the test have, together, been referred to as the “irreducible minimum” to create an employment relationship.  If one of these limbs is not satisfied, the individual is not an employee.  However, the converse is not true.  If limbs 1 and 2 are satisfied, this is not enough to categorically conclude that the individual is an employee.  It is important to look at the relationship as a whole in order to satisfy limb 3 of the test.

This 3-limb approach has been approved by the House of Lords, so how has it been applied in the context of commercial agency?  This question was recently addressed by the Court of Appeal in the case of Smith v Reliance Water.

Smith v Reliance Water

The Court confirmed that an individual’s status is still a question of both substance and form, but the starting point should always be to look at the contract, and only if there is evidence to show that this is a sham or “window dressing”, should its terms be overlooked.  The way that the contract is drafted is therefore of vital importance.

So what are the practical points to take away from current case-law?

• Don’t put square pegs in round holes – Organisations should not classify individuals by how they wish to describe themselves.  Most aspects of a job will be dictated by the commercial requirements of that role, and will not be adaptable to shape the status of the individual.
• Always take care drafting the contract – As the written terms will be the Court’s starting point when assessing status, spend time ensuring that they fit with what you want to achieve.
• Conduct periodical reviews on status – While the passage of time may not, of itself, change an individual’s status, the individual’s role may naturally evolve to have this effect.  Therefore, a commercial agent could, over time, become more and more integrated into an organisation until they are indistinguishable from employees.
• Try not to hedge your bets –  particularly if status is borderline.  Trying to cover all bases is likely to cause confusion.

For example, if a business puts a contractor through a disciplinary process before terminating for breach of conduct, it will undermine its a future argument that the individual is a contractor, if a claim is subsequently brought.

However, if it appears that a contractor may, in fact, be an “employee”, a process may have to be followed, particularly in light of the new statutory minimum disciplinary procedures – but in so doing you should take care not to make any admissions as to status.

This briefing note is for general information.  For advice in applying this general information to your specific circumstances, please contact  Carl Richards, or any member of the Fox Williams’ agentlaw team (www.agentlaw.co.uk)