The tax treatment of independent contractors is a grey area for many South African businesses—especially when the contractor is closely tied to the company, such as a director or shareholder. It may seem easier (or even more tax-efficient) to have that individual invoice the business each month instead of drawing a formal salary. But when SARS audits that decision, intent matters far less than compliance.

This isn’t just a question of preference—it’s a legal classification issue. And if the contractor in question is legally deemed to be an employee, then PAYE must be withheld and paid over to SARS, regardless of how the arrangement was structured.

The risk? If the company fails to deduct PAYE where required, it may face penalties, fines, or even criminal prosecution. That’s why understanding when PAYE applies to independent contractors—and when it doesn’t—is critical.

Independent Contractors and PAYE in South Africa

The Problem / Practical Scenario

It’s a common setup, particularly in small or closely held companies: a director who is also a shareholder chooses not to receive a formal salary and instead submits monthly invoices for services rendered. The idea is that by acting as an “independent contractor,” neither party needs to deal with the PAYE deductions or UIF contributions that come with traditional employment. But while this arrangement might seem efficient, it can create significant tax risk if SARS later determines that the individual was, in fact, acting as an employee.

The key question is whether this invoicing arrangement holds up under scrutiny—or whether the company should have treated the individual as an employee for tax purposes and withheld PAYE accordingly. In some cases, this setup could be viewed as an attempt to sidestep statutory obligations, leaving the company exposed to penalties or prosecution.

The Law That Applies

To assess whether PAYE should be withheld, we need to look at both legislation and guidance from SARS.

The relevant legislation includes:

• Paragraph 2 of the Fourth Schedule to the Income Tax Act 58 of 1962, which defines who is an employee and what constitutes remuneration for tax purposes.
• SARS Interpretation Note 17 (Issue 5), which provides interpretive guidance on when a person qualifies as an employee or independent contractor for PAYE purposes.
• Section 234(p) of the Tax Administration Act, which outlines the consequences for employers who wilfully fail to deduct or pay PAYE when required.

These sources work together to set out when a person must be placed on payroll and have PAYE deducted—regardless of what the parties call the relationship in writing.

Applying the Law to the Facts

The core issue is whether the independent contractor truly operates independently, or whether the working relationship fits the legal definition of employment under the Income Tax Act. If the arrangement meets SARS’s criteria for employment, the company has a duty to deduct PAYE—even if the individual submits monthly invoices instead of earning a salary.

SARS requires that employers assess whether payments made to the contractor qualify as “remuneration.” Two specific conditions trigger PAYE obligations under the Fourth Schedule:

1. The individual renders services mainly at the premises of the person paying them; and
2. The individual is subject to the control or supervision of any person regarding how their duties are performed.

If both of these conditions are met, SARS will likely treat the individual as an employee—regardless of the label given to the relationship. In that case, the company must include them on the payroll and deduct PAYE just as it would for any other staff member.

There is, however, an important exception: if the contractor employs three or more full-time employees who are not connected persons (i.e. not family members or relatives) and who work throughout the tax year in the contractor’s business, then the contractor is presumed to be operating a bona fide business. Under those circumstances, the individual is not considered an employee and PAYE does not need to be withheld. They would be responsible for their own tax submissions and compliance.

Consequences of Getting It Wrong

The consequences of misclassification are serious. According to section 234(p) of the Tax Administration Act, any employer who wilfully and without just cause fails to withhold PAYE may be guilty of an offence. On conviction, the penalty could include a fine or imprisonment for up to two years.

This applies even in cases where the employer and contractor mutually agreed on the arrangement. SARS will look at substance over form—meaning they care more about how the relationship functions than what it’s called. If the contractor is deemed an employee under the law, the employer is liable for all unpaid PAYE, interest, and penalties.

Aucamp Attorneys – Labour Lawyers South Africa

If your business works with independent contractors—or if you’re uncertain whether an invoicing arrangement exposes you to risk—it’s worth speaking to a legal professional before SARS does. At Aucamp Attorneys, we help companies structure their working relationships correctly from the outset, reducing exposure to tax risk and ensuring full compliance with South African labour and tax law.

We also assist individuals who may be unfairly classified, helping them understand their rights and obligations under the law. Contact us for clear, reliable advice on how to manage contractor relationships, payroll compliance, and legal risk in a way that protects your business without compromising flexibility.