Job contracting vs labor-only contracting

To understand the raging issue of “contractualization,” imagine the owner (also called “principal”) of a residential lot entering into an agreement with and obligating a contractor (who has sufficient capital or investment) to build his dream house.

Simple example. According to DO 174, Series of 2017 (the latest issuance on the subject by the Department of Labor), the term “sufficient capital” means paid-up capital or net worth of at least P5 million. “Investment” refers to the equipment and tools needed to fulfill the contract.

The agreement required the owner to pay the contractor P5 million in tranches: P1 million upon the signing of the contract and the balance upon the accomplishment of certain specified construction milestones.

In turn, the contractor is obliged to supply all the necessary cement, gravel, sand, wood and other construction materials, plus the labor force, equipment and tools to finish the house.

Under this scheme, the carpenters and other workers hired by the contractor are his employees, not of the owner. He is required to pay them at least the minimum wage, overtime and other benefits imposed by law. The owner will not be liable for such benefits unless the contractor underpays their salaries, in which case he would be solidarily liable.

However, if the agreement requires the contractor to recruit the workers only and nothing more, with the owner paying for their salaries and benefits, OR supervising their work, OR providing the equipment and tools needed, then the owner will be deemed their employer.

This latter scheme is “labor-only contracting” which is prohibited by the Labor Code (Art. 106). The earlier example is “job contracting” which is allowed by the same law. This characterization will not change even if the owner supplies the construction materials like cement, gravel, wood, etc.

More complicated example. Let us assume further that the contract involved several multistory buildings costing P5 billion. Instead of doing everything, the contractor subcontracted the cleaning and the guarding of the construction premises as well as the medical clinic of the workers to three sufficiently capitalized entities, which separately hired the janitors, security guards, and doctors/nurses, and provided the cleaning tools, guns, medical equipment, and training needed to accomplish their respective tasks.

Here, the subcontracts are deemed job contracting, not labor-only contracting, because the three subcontractors did not merely recruit the workers but also controlled them, paid their salaries and other benefits, and supplied the needed equipment and tools. “Outsourcing” is the digital-age synonym of job contracting.

Detailed legalese. In Sasan vs NLRC (Oct. 17, 2008), the Supreme Court held that a company is “engaged in legitimate job contracting or sub-contracting, if [it] a) carries on a distinct and independent business and undertakes to perform the job, work or service on its own account and under its own responsibility according to its own manner and method, and free from the control and direction of the principal in all matters connected with the performance of the work except as to the results thereof; b) …has substantial capital or investment; and

“c) The agreement between the principal and contractor or subcontractor assures the contractual employees entitlement to all labor and occupational safety and health standards, free exercise of the right to self-organization, security of tenure, and social and welfare benefits.

“In contrast, labor-only contracting, a prohibited act, is an arrangement where the contractor or subcontractor merely recruits, supplies or places workers to perform a job, work or service for a principal. In labor-only contracting, the following elements are present:

“(a) The contractor or subcontractor does not have substantial capital or investment to actually perform the job, work or service under its own account and responsibility, and

“(b) The employees recruited, supplied or placed by such contractor or subcontractor are performing activities which are directly related to the main business of the principal.”

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