Other BriefingsContract of Service vs Contract for Service in Malaysia
When companies in Malaysia need to recruit new talent or outside expertise, one of the first decisions they face is whether to hire that person as an employee under a contract of service or as an independent contractor under a contract for service. Although the terms sound similar, the two arrangements create fundamentally different legal relationships, levels of control, and cost structures.
Understanding the distinction from the outset helps organizations structure their workforce more effectively, manage compliance obligations, and minimize the risk of disputes or misclassification down the line.
Contract of service
A contract of service under Malaysia’s employment regulation, also known as an employment contract, is the contract signed between an employer and an individual to create a formal employment relationship. Contracts of service are governed by the Employment Act 1955, which stipulates matters such as employee rights and obligatory contract terms, among other employer and employee obligations.
Under this Act, “contract of service” is defined as “any agreement, whether oral or in writing and whether express or implied, whereby one person agrees to employ another as an employee, and that other agrees to serve his employer as an employee and includes an apprenticeship contract”.
As the contract of service forms an employer-employee relationship, the employer will be responsible for handling the employee’s income tax through monthly tax deductions (MTD).
There are various types of service contracts, which differ in terms of length, scope, employer obligations, and employee rights. These include:
- Permanent contract
- Fixed-term contract
- Part-time contract
- Apprenticeship contract
All employees hired under a contract of service, regardless of the type or length of contract, are entitled to benefits such as holidays, annual leave, sick leave, social security and pension contributions, among others.
The scope of these obligations varies slightly depending on the type of contract, while certain types, such as apprenticeship contracts, do not provide protections, including a contract termination notice period.
Contract clauses
Contracts of service must contain certain clauses to protect the rights of the employee and employer, which include:
- Job title and description
- Employment type
- Compensation and benefits
- Working hours
- Leave entitlements
- Probation period
- Termination and notice period
- Confidentiality and non-disclosure
Note that apprenticeship contracts do not need to include provisions on termination or notice periods.
Contract for service
A contract for service, also known as an independent contractor agreement, service contract (or agreement), or freelancer agreement, is a contract that allows an individual to provide services to a client for a service fee. Under this type of agreement, the employer and the individual have a client-contractor relationship and not a formal employment relationship, which means the contractor is not entitled to the same scope of protections and benefits as in a contract of service.
Contracts for service are governed by the Contracts Act 1950, not the Employment Act 1955. The Contracts Act 1950 does not stipulate mandatory terms specifically for contracts of service; instead, they are subject to the same requirements and regulations as general contracts. A “contract” in this law is simply defined as “an agreement enforceable by law”.
As a contractor is not a formal employee, the employer (client) is not responsible for handling income tax payments.
Additionally, contracts for service don’t have to stipulate working hours, annual leave, termination notice periods, overtime, or statutory benefits. However, they do meet all the basic requirements for a contract to be considered lawful and enforceable, namely:
- Have a lawful offer and acceptance
- Have an intention to create legal relations
- Contain a consideration
- Involve parties over the age of 18 who have the capacity to contract
- It was concluded under free consent
- Be lawful in purpose
- Meet the certainty requirements for terms
Some other provisions regarding the scope of services provided in a contract for service – while not strictly mandatory under law – are recommended to ensure “certainty”. Agreements that are not certain or cannot be made certain are void under the Contracts Act 1950. These provisions include (but are not limited to):
- Description of services and scope of work
- Payment terms, including clear consideration
- Duration or timeline of service provision
- Termination of provision
- Deliverables or performance standards
- Conditions, warranties, or limitations of liability
Risks of misclassification
When hiring an independent contractor or freelancer through a contract for service, it is important to ensure the relationship remains within the scope of the contract for service and not to misclassify individuals who provide services at a frequency or schedule more similar to that of an employee as a contractor or freelancer. Similarly, if a contractor relationship expands beyond the scope of the initial contract, switching to a formal employment structure may be required to prevent possible liabilities.
The courts in Malaysia may look at a range of factors when assessing whether a work arrangement is a client-contractor or employer-employee relationship. This includes the extent of the employer’s (or client’s) control over the employee’s (or contractor’s) work schedule, how integrated the employer’s (or contractor’s) work is with the organization’s main operations, the regularity of payments, and the degree of mutual obligation (that is, whether the employee/contractor can freely accept or refuse work from their employer/client).
Misclassifying an employee as a contractor could result in penalties for unpaid taxes and backpay of taxes, as well as EPF, SOCSO, and EIS contributions.
Contract of service versus contract for service: Hiring considerations
Choosing whether to hire someone through a contract of service or a contract for service is really a choice between two fundamentally different legal and operational relationships. Each option carries its own risks and benefits, and in many cases, the decision is shaped not only by the company’s needs but also by the individual’s preference and the nature of the work itself.
Hiring someone as an employee through a contract of service, be it part-time, full-time, permanent, or fixed-term, means integrating that person directly into the organization. At the same time, it requires the employer to take on significant obligations and financial burdens, including leave entitlements, benefits contributions, and adherence to working-hour limits, among others. A contract of service arrangement is therefore better suited for ongoing or core work, or for long-term projects that require continuity, predictable availability, and a strong degree of managerial control.
In contrast, a contract for service allows a company to hire an individual’s services or expertise as an independent contractor, paying for defined deliverables rather than labor in the employment-law sense. This pathway offers greater flexibility and can be more cost-efficient, particularly for specialized tasks, short-term projects, or work that does not need close supervision.
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