Case update (1): Employment status – director an employee?

compensatory award - scales balancing person and moneySummary: Can an unpaid shareholder and director of a Company be an employee?

Yes, says the Court of Appeal in Stack v Ajar-Tec Ltd available here.

Background: In order for an individual to show that they are an employee, they must establish that there is an express or implied contract in place. Basic contract law states that, in order to be a valid contract, there must be consideration between the parties. For employment contracts this means that the employee must provide work and in return the employer pays them or provides some other benefit.

Facts: Ajar-Tec was an audio-visual business. It had three shareholders and directors. Mr Stack was a director and shareholder and the major investor. He also had other substantial business interests. Mr Stack worked for the business from the start but did not receive any pay. Despite various discussions about roles and responsibilities, and draft employment contracts being circulated, Mr Stack did not formalise any employment arrangements. In 2009 relationships deteriorated and Mr Stack’s directorship was terminated.

Mr Stack brought claims for constructive unfair dismissal and unauthorised deduction from wages. In order to pursue his claims, Mr Stack had to first show that he was an employee (see above Background). In this case Mr Stack had not received any payment (consideration) for the services he provided. This means that it was necessary to imply a term that a wage or some remuneration would be provided. The test for implying a term is whether this would spell out in express words what the contract, read against the relevant background, would reasonably be understood to mean.

The Tribunal agreed with Mr Stack that he was an employee of Ajar-Tec Ltd as there had been an express agreement that he would provide work for the company and the Tribunal considered it was common-sense that he would be paid for what he did. As a result a term regarding payment was implied into his contract.

Ajar-Tec Ltd appealed against the Tribunal’s decision. The EAT upheld the appeal.

Mr Stack appealed against the decision to the Court of Appeal. The Court of Appeal agreed with the Tribunal that there was an express agreement under which Mr Stack accepted an obligation to work for the company. The Court of Appeal found it unsurprising that there was no express promise by the company to pay Mr Stack at this stage, as the company did not then exist. The Court of Appeal agreed with the Tribunal that it was possible to imply a term as to remuneration – Mr Stack had undertaken a positive, enforceable obligation to work for the company and it made no sense to regard him as agreeing to be rewarded only by dividend, particularly when one of the other company directors was both being paid and receiving a dividend.

Implications: The facts of this case and that it went all the way to the Court of Appeal, emphasise how difficult (and costly) it can be to establish employment status in the absence of a formal agreement. This stresses the importance of ensuring that relationships between parties are formalised in writing at the outset. Although questions of employment status will always be resolved on the facts of the particular case, this decision and a previous EAT decision, do now suggest that directors or shareholders will not necessarily need to have received pay in order to be employees, provided that there is a legal obligation on the employer to pay them.