Are directors employees of a company?

Company directors are often employees—but in many instances, they are not. Their employment status depends entirely on individual circumstances.

By default, directors (and company secretaries) are known as ‘office holders’. When a company appoints someone as a director, the individual automatically becomes an office holder, irrespective of whether they have an employment contract or receive remuneration from the company.

However, an office holder can also be an employee. But how can one determine if a director is also an employee of the company—and why does it matter?

Why does employment status matter?

There are two legal reasons why it’s important to establish the employment status of a director:

1. Employment law—Employees (and ‘workers’ to a lesser extent) have many legal rights (e.g. minimum wage, holiday pay, parental leave and pay, redundancy, etc), and employers must comply with various duties relating to employment law.
2. Tax—Both a company and an employee must be aware of their responsibilities regarding Pay As You Earn (PAYE) and dealing with HMRC.

It should be noted that an individual can be considered an employee for employment law purposes but self-employed for tax purposes. This blog will focus on determining whether a director is an employee for employment law purposes.

When are company directors employees?

Since many companies are founded and owned by one individual who acts as the sole director and shareholder, there is often little reason for a director to establish an employment relationship or create an employment contract with their company. In this case, the director won’t be considered an employee—they are simply an office holder.

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However, companies often hire and pay other individuals to act as directors. In this scenario, they usually have a director’s service agreement (or ‘service contract’). This is very similar to an employment contract. Typically, it will set out terms you would otherwise find in a standard employment contract. It will also set out additional duties relating to the director’s role as an office holder.

Company directors with a written service agreement are usually considered employees as well as office holders (but this is not always the case—see below).

When does a service agreement not confer employment status?

Generally, any director with a service agreement (or employment contract) will be classed as an employee of the company.

However, non-executive directors (NEDs)—who often act in more of an advisory or mentorship role—may not intend to have any employment relationship with the company. 

If they have a service agreement, modifying the contract’s wording may be necessary to ensure it does not confer employment status. If done correctly, a non-executive director may have a service contract without being an employee.

Can directors without a service agreement be employees?

The absence of a written service agreement does not automatically preclude a director from being classed as an employee. You need to consider various factors to determine if someone who works for a business has employment status.

For example, a director is probably an employee if most of the following are true:

• required to work regularly
• work a minimum number of hours
• paid for time worked
• entitled to holiday pay and other benefits
• cannot send a substitute to carry out their work
• can join the company’s workplace pension scheme
• the company’s HR policies apply to them (e.g. disciplinary procedures)
• work at the company’s business premises

If a dispute between a company and a director results in an employment tribunal, the court will consider these factors. Therefore, a properly drafted director’s service contract may resolve this question in advance.

Does a director’s salary impact employment status?

While many directors receive remuneration for their duties, some director-shareholders don’t take a salary. Instead, they pay themselves dividends from the company. In this situation, the director is less likely to be classed as an employee than those on the company payroll. 

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Similarly, a director who takes a nominal salary topped up with dividend payments (to reduce their personal tax liability) is also less likely to be considered an employee than a director who receives all or most of their remuneration as a salary.

However, this may not be the case where a director-shareholder is unpaid but there is an implied agreement that the company will reimburse them for their services at some point in the future. This intention to pay can create an employment relationship.

Can a director be an employee if they’re a majority shareholder?

In small private companies, it is commonplace for one director (or the sole director) to hold the majority of shares. This can also complicate matters regarding whether the director is an employee. 

As the law currently stands, a director is not precluded from being employed by the company with a contract of service simply because they’re a majority shareholder—provided that the director’s relationship with the company and manner of remuneration are consistent with a typical employment relationship.

And there you have it…

We have discussed the question: Are directors employees of a company? As you now know, the answer may vary depending on the circumstances.

If you want a director to be classified as an employee of a company, it is a good idea to create a written service contract between the company and the director.

However, if you are the sole director and shareholder, going through this process may be a waste of time since there is no advantage to being an employee for employment law purposes. For example, it is doubtful you would ever want to enforce any employment rights against your business.

Regardless of your decision, we always recommend taking advice from a professional, such as an accountant, solicitor, or HR expert.

If you have any questions, please leave them in the comment section below. For more limited company guidance and small business advice, explore the 1st Formations Blog.