When a contractor in Japan is treated as an employee

1. The title on the contract is only one factor

A contract headed "業務委託契約書" (services/contracting agreement) can still be characterised as an employment contract. Under Japanese law, employee status is determined by the reality of how the work is performed, not by the label the parties have chosen.

The issue stays invisible in normal times. It surfaces in situations such as these.

• A former contractor claims unpaid overtime after the engagement ends
• A Labour Standards Inspection Office takes the position that a contractor is an employee
• A Pension Office examines whether social insurance coverage should be applied retroactively in light of the actual working arrangements
• In fundraising or M&A due diligence, contractor arrangements are raised and treated as an off-balance-sheet exposure in price negotiations

The fourth is the one foreign parents tend to encounter. Arrangements put in place informally in the early years of a Japanese subsidiary are revisited in diligence.

2. The analytical framework

Whether a person is an "employee" under the Labour Standards Act is assessed primarily through shiyō-jūzoku-sei — subordination to the employer's direction. In practice the framework set out in the 1985 report of the Labour Standards Act Study Group remains the starting point.

Subordination

• Is the work performed under direction and supervision?

- Is there freedom to decline a request to perform work? - Are specific instructions given as to how the work is carried out? - Are the place and hours of work constrained? - May another person perform the work in place of the individual (substitutability)?

• Is the remuneration consideration for labour?

- Is remuneration calculated by reference to time? - Is it reduced for absence, with a premium for additional hours?

Supporting factors

• Operating as a business: does the individual bear the cost of equipment; is the level of remuneration not markedly higher than that of comparable employees?
• Exclusivity: is work for other companies restricted; does the remuneration have the character of livelihood support?

No single factor is decisive; the assessment weighs the circumstances as a whole. Limited freedom to decline work, specific supervision over how the work is done, and remuneration with a time-based character each point towards employee status, but no fixed set of three factors determines the outcome.

3. What a contract clause cannot achieve

A clause of the following kind is common.

This Agreement is a contract for work. The Contractor is not an employee of the Company and shall not assert rights under labour legislation.

Such a clause cannot by itself determine employee status. Status under the Labour Standards Act is assessed from the content of the contract and the reality of the work, not from the name the parties gave the contract or a unilateral acknowledgment. What a contract can usefully do is match what is actually done.

Some work reasonably requires specified hours or a specified location. That alone does not establish employee status, but it is weighed with everything else. Where subordination is strong, the sensible response is to reconsider the relationship, including conversion to employment.

4. The Freelance Act applies in parallel

Separately from employee status, the Act on Optimisation of Transactions with Specified Entrusted Business Operators (the Freelance Act, Act No. 25 of 2023) has been in force since 1 November 2024. A "specified entrusted business operator" is an individual who employs no staff, or a company with no officer other than a single representative and no employees. The obligations on the commissioning side vary with the commissioning party's attributes and the length of the engagement.

• Statement of terms: on commissioning work to a specified entrusted business operator, immediately state the content of the work, the amount of remuneration and the payment date in writing or by electromagnetic means
• Payment by the due date: a "specified commissioning business operator" — broadly, an individual who employs staff, or a company with two or more officers or with employees — must in principle set a payment date within 60 days of receipt, as short a period as possible, and pay by that date
• Prohibited conduct: where a specified commissioning business operator engages a freelancer for one month or more, refusal to accept delivery, reduction of remuneration, returns, abusively low pricing, forced purchase, demands for improper economic benefits, and unjustified changes or reworking are prohibited
• Working environment: accurate representation in recruitment information and harassment measures are required; for engagements of six months or more, accommodation for childcare and family care, and in principle 30 days' notice of mid-term termination or non-renewal, also apply

Not every engagement attracts the same obligations, so it is worth mapping them by contract type. The transaction-fairness provisions are enforced by the JFTC and the SME Agency; the working-environment provisions by the Ministry of Health, Labour and Welfare.

The JFTC has already issued recommendations against several companies and published them. Company names are published, so the reputational dimension needs to be taken into account.

5. Relationship with the new Subcontract Act

Where the transaction type and the parties' capital or headcount meet the thresholds, the Toriteki-hō (formerly the Subcontract Act) also applies; a small and medium-sized contractor can be an individual. Since 1 January 2026 a headcount test sits alongside the capital test, widening the scope. See the article on the application test under that Act.

Where it is the individual contractor who is on the receiving end of a termination or an unpaid invoice, the same rules are approached from the other side in the guides on unpaid freelance fees and contract termination.

In practice, work through the following in order. The Freelance Act and the new Subcontract Act are not mutually exclusive; both can apply.

1. Could the individual be characterised as an employee (Labour Standards Act, Labour Contract Act)?
2. If not, is the engagement within the Freelance Act (an individual with no employees, etc.)?
3. Is it also within the new Subcontract Act (transaction type and party size; overlap is possible)?
4. Beyond that, is there an abuse of superior bargaining position issue under the Antimonopoly Act?

6. Where to start

1. Build a list of contractors (engagement period, basis of remuneration, place of work, restrictions on other clients)
2. Flag those paid hourly or daily and those attending the office every day
3. Decide, for the flagged engagements, between conversion to employment and correcting the operating practice
4. In parallel, align the contract template and the information given at the time of ordering with the Freelance Act

The two markers in step 2 are easy to extract internally and make a reasonable first screen. Neither is decisive on its own, so the flagged engagements still need individual review against the other factors.

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This article is general information, not legal advice on any specific matter. Employee status turns on the facts of the particular working arrangement. For a review of your Japanese contractor arrangements, please use the contact form.