A Complete Guide to Converting Independent Contractors Into Employees in Malaysia

Throughout the world, the tax and employment laws are constantly changing. To remain compliant with these laws, businesses need to stay on top of the new changes affecting their business and tax liabilities.

Acumen International, a global Employer of Record and PEO solutions provider, helps businesses ensure that they are following all necessary international and in-country laws when it comes to workforce hiring and how they classify them in Malaysia. 

Why Does Compliance Matter when Hiring Independent Contractors?

One of the most challenging compliance issues that companies face today is independent contractor misclassification. While the independent contractor (IC) model is viable in many situations, it’s important to recognize that it isn’t a catch-all solution for every situation. 

Employee misclassification risk occurs when a company incorrectly classifies an employee as an independent contractor and vice versa. This can lead to severe consequences, including penalties and back taxes.

Many different factors determine whether someone is classified as an independent contractor. Employment laws in different countries vary greatly, and a single contractor may be subject to three, four, or even six various tests under wage-hour, unemployment, workers’ compensation, employment tax, safety, and equal opportunity laws.

Acumen International is here to take the guesswork out if you want help with your global employment decisions. We update all of our tools in real time, so you can be confident that the guidance you receive is accurate and up-to-date. We can help you make the best decision for your situation.

Contractor vs Employee: How to Determine Accurate Employment Status

1. Control

Independent contractors (freelancers) are professionals who provide services to companies under contract. They may work remotely or on-site and are typically distinguished from employees based on the degree of control exercised by the company. In general, the more control a company has over an individual, the more likely that person is an employee rather than an independent contractor.

If the client provides explicit instructions on how to complete a task, including what needs to be done, when it should be done, and where it should be done, this is referred to as “how, what, when, and where” testing. In these cases, the workers are usually controlled by the client and would therefore be considered employees. 

One of the key distinctions between employees and contractors is that employees are typically required to complete the work that “comes down the pipe,” as stipulated in their job description. 

A high degree of control over the contractor’s work or schedule might also help show that they are more like employees than independent businesspeople.

2. Substitution

The employment relationship is built on two key concepts: 

1. that the employee is an individual and not a legal entity; 
2. that the employee cannot be replaced. 

The employment contract is personal to the individual, based on their skills, experience, and identity. The employer hired them because of these qualities, which are essential to the contract.

It is implied that a worker given the right to substitute for themselves and to have work assigned to someone else is not providing a personal service and is not an employee. This would suggest that the employer can quickly replace the contractor, indicating that they do not need such a contractor personally for their business. Also, suppose the employer has the right to assign work to someone else. In that case, it means they control how many people work for them at one time and when, which would mean the contractor is not considered to be working under an employment contract but under a contract of service.

3. Mutuality of Obligation

The concept of mutuality of obligation means that both an employer and employee have specific duties and responsibilities to each other. An employer is obligated to provide work for their employee while the employee is required to complete the assigned work.

Suppose a worker is not focused on a specific project and has to do any task allocated by the client. In that case, there is probably mutuality of obligation, and the worker is not seen as an independent contractor by tax authorities.

4. The Burden of Entrepreneurial Risk

When examining the rights and responsibilities of an independent contractor, there is often confusion over what classifies one as an employee. the most important distinction between an employee and an independent contractor is financial risk. If a contractor can make a profit or a loss, i.e., financial risk, this would suggest that the contractor is an independent contractor. Otherwise, they may be considered an employee.

Employee Misclassification in Malaysia

In Malaysia, being classified as an employee has better consequences for the worker, vastly due to all the employment law protectorate, one of key aspects is the right to claim unfair dismissal. An independent contractor should only hope for the protection of the rights from the contract. At Acumen International, we help you handle all of these challenges. We can onboard and pay your foreign IT staff on your behalf in 190+ countries with 100% legal compliance. When competing in the war for sought-after IT talent, you often wonder…

• Is it prudent to engage and pay international IT staff on my own entities in Malaysia? Is it realistic for my current goals and future opportunities?
• Or is engaging freelancers a good fit for my company?

Finding the answers doesn’t have to be complicated or time-consuming.

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