Employment Status: Director and 40% Shareholder Not Employee in Rainford v Dorset Aquatics [2021]

Employment status – whether someone is an employee/worker of a company,  crops up in a number of contexts. It is often associated with taxation. In a recent case at the Employment Appeal Tribunal (EAT), Rainford v Dorset Aquatics Ltd EA-2020-000123-BA, it was explored for the purposes of determining whether or not a director and 40% shareholder of a company could bring employment tribunal claims for unfair dismissal, notice pay, unlawful deductions and holiday pay. Such claims would only be legitimate if the claimant could prove he was an employee of the company. He failed to do so at a preliminary hearing and then on appeal at the EAT.

What happened?

The claimant, Bradley, and his brother Ben were co-directors and shareholders of the company, Dorset Aquatics Ltd. Bradley was given 40% of the shares in mid-2015 with his brother holding the remaining 60%. The judge found that the company was a typical family-run business with “a lack of contractual documentation and paperwork, over-dependence on personal relationships and… attendant risks of disagreements.” There was no written contract or documentary record relevant to Bradley’s claimed employment status and no evidence was given of any relevant oral agreement between the parties.

Bradley worked predominantly as site manager at a longstanding landscaping project and on the company’s marketing including its website and social media. Bradley decided his hours and Ben had no control over how he carried out his work. Bradley took holidays when he wished. Bradley and Ben agreed they were each to be paid equal monthly ‘salaries’ which they fixed from time to time based on how much the company could afford. These payments were made regardless of how many hours had been worked.

Employment status – the law

Section 230 of the Employment Rights Act 1996 is the key provision for employment status:

“(1) In this Act “employee” means an individual who has entered into or works under… a contract of employment.

(2) In this Act “contract of employment” means a contract of service… whether express or implied and (if it is express) whether oral or in writing.

(3) In this Act “worker”… means an individual who has entered into or works under…

(a) a contract of employment, or

(b) any other contract, whether express or implied and (if it is express) whether oral or in writing, whereby the individual undertakes to do or perform personally any work or services for another party to the contract whose status is not by virtue of the contract that of client or customer of any profession or business undertaking carried on by the individual…”

Three stage test

The three-stage test for the existence of an employment status in the case Ready-Mixed Concrete Ltd v Minister of Pensions [1968] 2 QB 497, is also important. This includes (in slightly outdated language):

“A contract of service exists if these three conditions are fulfilled.

(i) The servant agrees that, in consideration of a wage or other remuneration, he will provide his own work and skill in the performance of some service for his master.

(ii) He agrees, expressly or impliedly, that in the performance of that service he will be subject to the other’s control in a sufficient degree to make that other master.

(iii) the other provisions of the contract are consistent with its being a contract of service.”

Employment status – preliminary hearing

The judge at the preliminary hearing found that Bradley could not claim employment status for the following reasons:

• There was no requirement that he provide ‘personal service’ i.e. someone else could have performed his duties if arranged.
• Bradley exercised a considerable degree of control, beyond what might be expected by even a senior employee. Examples include setting the rate of his own pay and freezing the bank account to exclude his brother.
• No ‘mutuality of obligations’ – meaning there is no obligation on the employer to provide work and no obligation for the employee to accept the work. The only expectation on the brothers was that they would generate and execute sufficient work to sustain the company, its profits, their respective incomes but how they did so was entirely at their discretion.
• Bradley was paying PAYE and NI tax on his income. However, the judge found that this was clearly done on the company accountant’s advice, for practical tax reasons, without any positive input from the brothers. The judge therefore relied upon the case O’Kelly and ors v Trusthouse Forte plc [1983] ICR 728 EWCA, which established that being part of the PAYE scheme and paying NI is not conclusive proof of a contract of service.
• The ability for Bradley to work for others at the same time as for the company indicates self-employment (Bradley occasionally worked at his wife’s hairdressers).

The appeal

Bradley appealed the preliminary hearing’s determination of employment status at the EAT. He appealed on the following three grounds:

• Based upon section 230 of the Employment Rights Act 1996 (detailed above), it was incumbent on the judge at the preliminary hearing to find that Bradley’s relationship with the company was either that of an employee/worker or a self-employed contractor working for a client or customer i.e. the company. Given that the company was certainly not Bradley’s client or customer (as determined at the preliminary ruling at paragraph 15(b)), it must therefore follow that Bradley was an employee or worker.
• At the preliminary hearing, the judge should not have raised the issue of whether or not someone else could be substituted in to do Bradley’s work, given that this issue of substitution was never likely to arise in practice. This came under the ‘personal service’ section of the preliminary hearing’s judgement.
• The judge at the preliminary hearing should not have taken into account Bradley’s positions as statutory director and minority shareholder of the company. The appeal argued that the judge had treated Bradley’s status as a director/shareholder at the company as mutually exclusive with his status as an employee.

Employment status – EAT judgment

The EAT rejected Bradley’s appeal of employment status for the following three reasons (corresponding with the arguments made for the appeal above):

• “Although there is no reason in principle why a director/shareholder of a company cannot also be an employee or worker, it does not necessarily follow that simply because he does work for the company and receives money from it he must be one of the three categories of individual identified in s.230(3)” – this means that just because it had been shown that Bradley was not a self-employed contractor, this did not necessarily mean that he must therefore be an employee/worker because he had done some work for the company. Individuals that do work for a company may not be either an employee/worker or a self-employed contractor.
• The judge at the preliminary ruling had not been mistaken to consider that Bradley could have been substituted by someone else even though the issue was unlikely to arise in practice. The judge was discerning whether or not the service was ‘personal’ and this was a relevant, albeit subjective, point to consider.
• The EAT found that the judge at the preliminary ruling had “not made the error of regarding Bradley’s status as a director and/or shareholder as being mutually exclusive with his status as an employee. The level of Bradley’s control over the company and the fact that he had shared with Ben in the risk as to the company’s success were referable to his status as a director/shareholder and not directly relevant to the question of whether he was an employee or worker but they formed part of the “backdrop” and had not had any significant influence on the judge’s decision.”

Here to help

Unresolved employment status issues can have serious consequences for employers. If you are setting up a new business it is crucial to consider how you wish to engage each individual providing services to your company. In this recent case, the lack of an employment contract worked strongly in the company’s favour. However, the case also illustrates how a court will take into account a myriad of factors when assessing employment status. Therefore, employers should never solely rely upon the lack of an employment contract when considering whether or not someone who provides services is an employee/worker.

The case also shows that being a director / minority shareholder of a company is not mutually exclusive with being an employee. Although it was considered to be an important background to the case. Essentially Bradley had too much control over how he was to carry out his duties for the company and what those duties would be, to be considered an employee by the courts. But he was also not a self-employed contractor.

If you have any questions or need help dealing with employment status, drafting employment contracts or other employment law issues please contact any one of our employment lawyers Marc Jones or Imogen Finnegan or call us on 0203 637 6374.