Companies operating in Japan frequently utilize various forms of outsourcing and contracting arrangements to manage labor needs and specialized tasks. While common, structuring these relationships requires careful attention to Japanese labor law, particularly the strict distinction between genuine independent contracting (ukeoi) and worker dispatch (haken). Mischaracterizing an arrangement, resulting in what is known as "disguised contract work" (gisō ukeoi), carries significant legal risks, most notably the potential triggering of a direct employment obligation by the client company under the Worker Dispatch Act.

A pivotal Osaka High Court decision on November 4, 2021, underscored these risks, particularly concerning long-term arrangements and the interpretation of provisions designed to prevent evasion of dispatch regulations. For U.S. companies using contracted labor in Japan, understanding this distinction, the concept of gisō ukeoi, and the implications of the Worker Dispatch Act is crucial for compliance and risk mitigation.

The Crucial Distinction: Independent Contracting (Ukeoi) vs. Worker Dispatch (Haken)

Japanese law clearly differentiates between two main ways external personnel might perform work for a company:

1. Independent Contracting / Service Contract (Ukeoi): In a true ukeoi arrangement, a company contracts with another business (the contractor) for the completion of a specific task or project. The key characteristic is that the contractor, not the client company, retains control over how the work is performed and directs its own employees. The contractor is responsible for completing the work according to the contract specifications and typically bears responsibility for defects. The client company's instructions should generally be limited to the overall scope and desired outcome of the contracted work, not the day-to-day tasks or methods of the contractor's employees.
2. Worker Dispatch (Haken): Under the Worker Dispatch Act, a dispatch agency employs workers and sends them to work at a client company under the client company's direction and supervision. While employed by the agency, the workers perform their daily tasks under the command and control of the client company. This arrangement is heavily regulated, with rules concerning permissible types of work, duration limits for certain positions, equal pay for equal work principles compared to the client's direct employees, and licensing requirements for dispatch agencies.

The distinction hinges primarily on who exercises command and control (指揮命令 shiki meirei) over the workers performing the tasks.

Defining the Line: Official Criteria

To provide clarity, Japan's Ministry of Health, Labour and Welfare (MHLW) has established criteria (based on the foundational Showa 61 [1986] Labour Notice No. 37) to distinguish legitimate ukeoi from haken. An arrangement is generally considered ukeoi only if the contracting company (not the client) meets specific conditions related to:

• Work Instructions and Management: The contractor must directly instruct its employees on how to perform the work and manage their tasks. The client company should not be giving direct, detailed instructions to the contractor's employees on a daily basis.
• Working Time Management: The contractor must be responsible for managing its employees' working hours, breaks, and leave, independent of the client's work schedules or timekeeping systems.
• Workplace Discipline and Order: The contractor, not the client, must be responsible for maintaining order and discipline among its employees within the scope of the contracted work.
• Contractor's Responsibility: The contractor must bear responsibility as a business entity for the completion of the contracted work, including liability for defects or non-performance, using its own funds and planning.
• Independence: The work performed must be clearly distinct from the work of the client company's direct employees, and the contractor must operate with a degree of independence (e.g., providing its own specialized equipment or know-how if relevant, though working on client premises is permissible if necessary).

If the reality of the working arrangement shows the client company exercising direct command and control over the contractor's employees, regardless of the contract's label, it risks being reclassified as worker dispatch.

The Pitfall: Disguised Contract Work (Gisō Ukeoi)

"Disguised contract work" (gisō ukeoi) occurs when an arrangement is labeled as an independent contract (ukeoi), but in practice, the client company directly supervises and instructs the contractor's employees as if they were dispatched workers. This is illegal because it essentially allows companies to bypass the regulations and worker protections mandated by the Worker Dispatch Act (such as duration limits, equal treatment principles, and agency licensing requirements).

Common indicators of gisō ukeoi include:

• Client company managers giving daily work instructions directly to contractor employees.
• Client company managing the working hours, overtime, and leave of contractor employees.
• Contractor employees being integrated into the client company's teams and organizational structure without clear distinction.
• Client company evaluating the performance of individual contractor employees.
• The contracting company lacking the substance of an independent business (e.g., having no real management structure for the work performed at the client site).

The Legal Consequence: Deemed Direct Employment Offer (Worker Dispatch Act, Article 40-6)

The Worker Dispatch Act contains a powerful remedy to protect workers caught in illegal dispatch situations, including gisō ukeoi: the "Deemed Direct Employment Offer" provision (often referred to using terms like 労働契約申込みみなし制度 - rōdō keiyaku mōshikomi minashi seido or 労働契約申込み義務 - rōdō keiyaku mōshikomi gimu).

Article 40-6 stipulates that if a client company receives worker dispatch services in violation of certain provisions of the Act, it is deemed to have made an offer of direct employment to the dispatched worker(s) under the same working conditions they had under the dispatch arrangement. If the worker accepts this deemed offer, an employment contract is formed directly between the worker and the client company.

This provision applies in several scenarios of illegal dispatch, including:

• Receiving dispatched workers for prohibited types of work.
• Exceeding statutory time limits for dispatch.
• Using workers from unlicensed dispatch agencies.
• Engaging in disguised contract work (gisō ukeoi).

The focus here is on the gisō ukeoi trigger, specifically Article 40-6, Paragraph 1, Item 5. This item states that the direct employment offer obligation arises if a company receives services under a contract other than a dispatch contract (i.e., typically an ukeoi contract) for the purpose of evading the application of the Worker Dispatch Act or related labor laws, knowing (or being reasonably expected to know) that the arrangement constitutes illegal dispatch (such as gisō ukeoi).

This introduces two crucial elements beyond simply identifying gisō ukeoi:

1. Knowledge: The client company knew or should have known the arrangement was illegal.
2. Purpose of Evasion: The arrangement was undertaken with the specific intent to circumvent dispatch regulations.

Historically, proving this subjective "purpose of evasion" posed a high hurdle for workers seeking to invoke this provision. However, the Osaka High Court ruling provided significant clarification.

The Landmark Osaka High Court Ruling (November 4, 2021)

This case involved workers employed by a contracting company who had worked continuously for several years at a client company's factory under a service contract (gyōmu ukeoi). The contract was terminated, and the workers were dismissed by the contracting company. The workers sued the client company, claiming their arrangement was gisō ukeoi and that Article 40-6(1)(5) applied, meaning the client company was obligated to employ them directly.

The Court's Findings:

1. Confirmation of Gisō Ukeoi: Applying the MHLW Notice criteria, the court meticulously examined the working reality. It found that the client company, not the contracting company, gave specific work instructions, managed work processes, and effectively controlled the workers' activities. The contracting company lacked the necessary operational independence and did not bear the responsibilities of a genuine contractor. Therefore, the court concluded the arrangement constituted disguised contract work (gisō ukeoi).
2. Inferring the "Purpose of Evasion": This was the most critical part of the ruling. The court acknowledged that simply being in a state of gisō ukeoi does not automatically prove the purpose to evade regulations. However, it established a significant principle: where a state of disguised contract work exists daily and continuously over a long period, the purpose to evade dispatch regulations can be inferred, unless the client company can demonstrate special circumstances proving otherwise.
   In this case, the court noted that the gisō ukeoi situation had existed from the very beginning of the relationship (dating back nearly two decades, although the specific workers' tenure was shorter), persisted even after worker dispatch became legally permissible in the manufacturing sector (in 2004), involved the mingling of the contractor's employees with the client's employees, and saw the client continue to give direct instructions. Based on this long-term, continuous state of illegality, the court inferred the client company had the requisite "purpose of evasion."
3. Rejection of the Good Faith Defense: The Worker Dispatch Act includes a proviso allowing a client company to escape the deemed employment offer obligation if it acted in good faith and without negligence regarding the violation. However, because the court inferred the "purpose of evasion," it concluded that the client company could not rely on this good faith defense. An intentional evasion cannot coexist with good faith and lack of negligence.
4. Direct Employment Obligation Upheld: Consequently, the court found that the client company was deemed to have offered direct employment contracts to the workers under Article 40-6(1)(5). As the workers had indicated their acceptance, direct employment relationships were recognized (effective from the point of acceptance).

Key Takeaways and Implications for Businesses

The Osaka High Court ruling serves as a significant warning for companies relying on contracted labor in Japan:

• Substance Prevails Over Form: Labeling a contract as "ukeoi" is insufficient. Courts will scrutinize the actual operational reality, focusing on who exercises command and control (shiki meirei).
• Long-Term Arrangements Carry Higher Risk: Continuous, integrated work by contractors over extended periods significantly increases the risk of reclassification as gisō ukeoi and makes it easier for courts to infer an "intent to evade." The passage of time weakens arguments that the situation was an unintentional oversight.
• The Difficulty of Proving Lack of Evasive Intent: Once a long-term, continuous state of gisō ukeoi is established, the burden effectively shifts to the client company to prove it didn't intend to evade the law, which can be very difficult.
• Significant Consequences: Triggering the deemed direct employment offer obligation has major implications:
  • Employment Relationship: The client becomes the legal employer.
  • Working Conditions: The conditions (salary, benefits etc.) are those the worker had under the contractor, potentially creating integration challenges with the client's existing workforce.
  • Termination Protection: The workers gain the strong protections against dismissal afforded to regular employees under Japanese labor law.
  • Potential Back Pay/Benefits Claims: Depending on the circumstances, related claims could arise.

Practical Compliance Checklist for Using Contractors in Japan

To mitigate the risks of gisō ukeoi and the application of Article 40-6, U.S. companies using contractors (ukeoi) in Japan should implement rigorous compliance measures:

1. Contractual Clarity: Ensure ukeoi contracts clearly define the specific scope of work to be completed, deliverables, and timelines. Avoid language suggesting the provision of labor hours rather than the completion of a task.
2. Maintain Contractor Independence:
   • Instructions: All work instructions must flow from the contractor's supervisors to the contractor's employees. Client staff should avoid giving direct operational instructions to contractor personnel. Communication should primarily be between client managers and contractor managers regarding the contracted work's progress and specifications.
   • Management: The contractor must manage its employees' attendance, working hours, performance evaluations, leave requests, and workplace discipline. Client systems should not be used for these purposes.
   • Integration: Avoid integrating contractor employees seamlessly into client teams or reporting structures. Maintain operational distinctions where possible (though physical separation may not always be feasible or necessary if other criteria are met).
3. Distinguish Tasks: Clearly differentiate the tasks performed by contractor employees from those performed by the client's direct employees. Overlapping tasks increase risk.
4. Contractor Responsibility: The contract should stipulate, and operations should reflect, that the contractor is responsible for the quality of the completed work and bears liability for defects. The contractor should demonstrate it has its own business planning and financial responsibility for the contracted task.
5. Equipment and Materials: Ideally, the contractor should use its own specialized tools or equipment if applicable, although using client facilities or standard equipment might be acceptable depending on the overall context.
6. Regular Audits and Reviews: Periodically review both the ukeoi contracts and, crucially, the actual working practices on the ground, especially for long-term or large-scale arrangements. Ensure operational reality aligns with the contractual designation and the legal criteria for ukeoi. Engage legal counsel to assess potential risks.
7. Training: Train client-side managers and employees who interact with contractor personnel on the legal distinctions and the importance of avoiding actions that could be construed as direct command and control.

Conclusion: Vigilance is Essential

The line between legitimate independent contracting (ukeoi) and worker dispatch (haken) in Japan is strictly defined, and crossing into disguised contract work (gisō ukeoi) carries the significant risk of being legally obligated to directly employ the contracted workers. The Osaka High Court's 2021 ruling highlights that long-term arrangements where client control is evident are particularly vulnerable, making it easier for courts to infer the "purpose of evasion" required under Article 40-6(1)(5) of the Worker Dispatch Act.

For U.S. companies operating in Japan, vigilance is essential. Relying solely on contractual labels is insufficient. A thorough understanding of the legal criteria, combined with rigorous operational practices that respect the contractor's independence and control over its own workforce, is necessary to mitigate the substantial legal and financial risks associated with gisō ukeoi. Regular review and legal consultation are critical components of managing these complex labor arrangements effectively.