All limited companies must have at least one director at all times. In small companies with a sole director, just because they do all the work does not mean they will automatically be classed as employees. Instead, company directors are known as office holders.
The status of ‘employee’ will only be afforded to them under certain conditions, which we will discuss below.
When is a director an employee?
Section 230 of the Employment Rights Act 1996 defines an employee as “an individual who has entered into or works under … a contract of employment”. Directors do not normally have employment contracts, but they often have service contracts which are essentially the same thing and generally provide them with employment status.
Company directors without service contracts are not automatically considered to be employees (or workers) for the purposes of employment law regulations. However, it is possible for directors to be classed as employees if they meet the majority of criteria which are used to determine if someone who works for a business is an employee.
In the case of a limited company which just has one director who is also the sole shareholder, there is generally no advantage to the director of being classed as an employee for employment law purposes (as they are unlikely to enforce any of their employment rights against their own company).
Are directors considered employees if they are paid a salary?
Directors who do not take a salary (e.g. those who take a dividend as shareholders instead) are less likely to be considered employees compared to directors who are on the payroll. However, without a service contract, the mere fact of being paid a salary does not mean directors will be classed as employees for employment law purposes.
Some directors take a salary in addition to drawing dividends, as a method of minimising their tax burden. Directors who are paid no more than £8,788 in salary per year (the secondary threshold for the 2020-21 tax year) are not required to pay Income Tax or National Insurance contributions.
So for tax efficiency purposes, many sole directors will pay themselves a salary within the secondary threshold and top this up with dividend payments.
However, companies need to register as employers if they pay more than the lower earnings threshold (currently £6,240 per year) to any member of staff, including a director. So if a director is paid more than this lower earnings threshold, they will be considered as an employee for tax purposes by HMRC, even if they are not considered an employee for employment law purposes.
Is a director self-employed?
Company directors are not considered to be self-employed in relation to the companies in which they hold office as directors. Although they can be both directors and employees, it is not possible to be a director and also a self-employed contractor for the same company.
In other words, company directors cannot invoice their companies for any services provided in the course of their role as director; instead this has to be paid as a salary.
However, an individual who is a company director for one business may well be self-employed in another business – so they can wear different hats.