Lately, tight cooperation between companies and individuals has come under the scrutiny by the State Labour Inspection Office more and more often. In practice, the main risk lies in the assessment of the relationship as illegal work outside the scope of a labour relationship (using a business identification number, without an employment contract), which for both parties may lead to sanctions and for companies also to an additional assessment of tax and health and social insurance contributions. From this year on, however, besides sanctions, companies also face the risk of a new penalty being imposed, i. e. a ban on conducting business for up to two years. The rules for assessing illegal work have also been tightened.
At the beginning of January 2024, an amendment to the Employment Act came into force, regulating, among other things, also the definition of illegal work and introducing further sanctions for the offence of “enabling illegal work performance”.
Illegal work performance is mainly considered to be contractual setup, in the Czech Republic usually referred to as švarcsystém (on which we focus in this article), under which an individual performs dependent work for an entrepreneur without concluding an employment agreement, an agreement to perform work (DPČ) or an agreement to complete a job (DPP). In practice, this usually means working using a business identification number, but in fact, the work does not correspond to an independent business activity (i. e. the provision of services by an external contractor – freelancer) but to dependent work.
According to the Labour Code, dependent work may only be performed under a basic employment relationship (i. e. based on an employment agreement, an agreement to perform work or an agreement to complete a job). Section 2 (1) of the Labour Code defines dependent work as work that fulfils the characteristics set down by law – work performed in person, in a supervisor-subordinate relationship, on behalf of the employer and on the basis of their instructions. So-called auxiliary characteristics for determining whether the work performed is dependent work are the fact that the employee receives a wage for their work, and performs work at the expense and at the responsibility of the employer, during working hours and at the employer’s workplace or another place agreed upon.
The new definition of dependent work in the amendment to the Employment Act
Before the amendment came into force, illegal work as defined by the Employment Act was “dependent work performed by an individual outside an employment relationship”. Newly, the definition is interconnected with the definition in the Labour Code, and the legislator explicitly states that “to assess whether the work performed is illegal, the duration of the work performance is insignificant”. Thus, on the one hand, illegal work has been defined more precisely and, on the other hand, the previous requirement for continuous work performance derived from the judicial decision-making practice has been excluded. This way, the position of the State Labour Inspection Office in inspections has been made somewhat easier, as the inspectorate will not have to prove whether the activities have been performed over a long term and repeatedly, which in practice caused difficulties for this control authority. At the same time, the defence of short-term work or occasional cooperation will no longer hold.
Moreover, individuals and legal entities performing business activities are threatened by a new sanction for enabling illegal work performance. Besides a fine in the amount of ten million Czech crowns and an additional assessment of tax and health and social insurance payments (which may lead to criminal sanctions for non-payment in extreme cases), entrepreneurs may be banned from doing business for up to two years. Even now, imposed sanctions for illegal work performance are already associated with several other complications in the field of employing foreigners or drawing investment incentives and grants. Apart from public-law penalties, companies also expose themselves to private-law risks, as employment may only be lawfully terminated when the legal requirements are met. Thus, for example, a former subcontractor may challenge the validity of termination of employment before a court and claim wages compensation, not to mention other possible claims.
How to proceed correctly and avoid sanctions?
Therefore, all companies cooperating with individuals as entrepreneurs using their business identification numbers (freelancers) should become alert. It is advisable to regularly revise all relationships with contractors and asses their risk level or to choose a better legal arrangement for them. We also recommend to bear in mind that it is not only the wording of the contractual documentation that is decisive, but above all the actual functioning of the parties that the controlling authorities and courts in practice focus on. Therefore, both a review of the contracts and a comprehensive legal due diligence are appropriate to identify possible risks of the factual cooperation, and, if applicable, to take remedial actions.
Last but not least, we would like to draw your attention to the overlap with taxes and health and social insurance. The related legislation has not been amended; however, the number of inspections has been increasing lately, as confirmed also by the State Labour Inspection Office. We therefore expect the increased inspection intensity to lead to more notification to tax and mandatory insurance administrators to launch inspections and ensure that possible insurance payments are additionally assessed.
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