Japanese labor law provides various avenues for businesses to flexibly manage their workforce, including the use of dispatched workers (rōdōsha haken) and contracting for services (ukeoi). However, a critical distinction exists between these legitimate arrangements and a practice known as "disguised contract work" (gisō ukeoi). Mischaracterizing a labor supply arrangement as a service contract when it is, in substance, worker dispatch can lead to significant legal repercussions, most notably under Article 40-6 of the Worker Dispatch Act, often referred to as the "direct employment offer rule." For US businesses operating in Japan, understanding these distinctions and the associated risks is paramount for compliance and stable labor relations.

Understanding Legitimate Worker Dispatch (Rōdōsha Haken) in Japan

Legitimate worker dispatch in Japan involves a tripartite relationship:

1. The Dispatched Worker: The individual performing the work.
2. The Dispatching Agency (Haken-moto): The entity that employs the worker and sends them to work at a client company.
3. The Client Company (Haken-saki): The company where the dispatched worker performs their duties under the client's direction and supervision.

The Worker Dispatch Act (officially, the "Act for Securing the Proper Operation of Worker Dispatching Undertakings and Improved Working Conditions for Dispatched Workers") regulates this arrangement. Key aspects include:

• Licensing: Dispatching agencies must be licensed by the Ministry of Health, Labour and Welfare (MHLW).
• Client's Direction: Dispatched workers perform their tasks under the direct instructions and supervision of the client company.
• Employment Relationship: The employment contract exists between the worker and the dispatching agency, which is responsible for wages, social insurance, and other employer obligations.
• Protections for Dispatched Workers: The Act includes provisions aimed at protecting dispatched workers, such as principles related to equal pay for equal work (compared to the client company's regular employees performing similar duties) and limitations on the duration of dispatch for certain positions or individuals to prevent long-term precarious employment.

Contracting for Services (Ukeoi) vs. Disguised Contract Work (Gisō Ukeoi)

Legitimate Contracting for Services (Ukeoi)

A genuine ukeoi (contract for services or works) arrangement involves a client company engaging a contractor to achieve a specific result or perform a defined scope of services. The defining characteristics of a legitimate ukeoi include:

• Completion of Work: The contractor is responsible for completing the agreed-upon work or delivering the specified service.
• Contractor's Control: The contractor uses its own employees, manages their work, and exercises direct command and supervision over them.
• Independence: The contractor retains operational autonomy and expertise in performing the contracted task. The client company typically issues instructions regarding the desired outcome or specifications of the work but does not control the day-to-day performance or manage the contractor's employees.
• Contractor's Responsibility: The contractor bears business risks associated with completing the work, including managing its own workforce, equipment, and methodologies.

Disguised Contract Work (Gisō Ukeoi)

Gisō ukeoi occurs when a labor supply arrangement is labeled and structured as an ukeoi contract, but in practice, the client company exercises direct control, supervision, and instruction over the workers supplied by the purported "contractor." These workers are treated as if they were dispatched workers or direct employees of the client company, even though the formal contract suggests an independent service provision.

This is often an attempt to:

• Circumvent the regulations and obligations of the Worker Dispatch Act (e.g., licensing requirements, duration limits, equal treatment provisions).
• Avoid direct employment responsibilities (e.g., social insurance contributions, direct labor law obligations).

Criteria for Distinguishing Legitimate Ukeoi from Gisō Ukeoi

The Ministry of Health, Labour and Welfare has issued guidelines to help distinguish between legitimate worker dispatch/contracting and disguised arrangements. A key document is MHLW Public Notice No. 37 of 1986 (Shōwa 61-nen Rōdōshō Kokuji Dai 37-gō), "Criteria for Distinguishing Between Worker Dispatch Undertakings and Undertakings Performed Under Contract." While this notice is a guideline, its principles are heavily referenced by labor authorities and courts. The core idea is that for an arrangement to be a genuine ukeoi, the "contractor" must satisfy two broad conditions:

1. Directly Utilizing Own Workforce: This means the contractor must:
   • Issue instructions and manage the performance of work for its employees.
   • Manage its employees' working hours, breaks, leave, etc.
   • Manage workplace discipline and make decisions on employee placement and changes.
2. Independently Processing the Contracted Work: This means the contractor must:
   • Procure and manage all necessary funds for performing the work under its own responsibility.
   • Bear all responsibilities as an entrepreneur for the contracted work (e.g., liability for defects, assuming risks).
   • Provide services that are not merely the supply of physical labor, but involve the provision of specialized equipment, technical expertise, or planning capabilities by the contractor itself.

If the client company, rather than the purported contractor, is effectively performing these management functions and controlling the supplied workers, the arrangement is likely to be deemed gisō ukeoi.

The Risks and Consequences of Disguised Contract Work

Engaging in gisō ukeoi carries significant legal risks for the client company:

• Violation of the Worker Dispatch Act: Operating an unlicensed worker dispatch service (if the "contractor" is not licensed) or receiving services from one is illegal.
• Violation of the Employment Security Act: Certain forms of labor supply outside the regulated worker dispatch system can violate prohibitions on intermediary exploitation (Article 44 of the Employment Security Act prohibits, in principle, labor supply businesses other than licensed dispatch).
• Legal Instability and Labor Disputes: Workers who realize they are in a gisō ukeoi situation may raise claims for direct employment or better working conditions.
• Application of Article 40-6 of the Worker Dispatch Act: This is arguably the most significant direct consequence for the client company.

Article 40-6 of the Worker Dispatch Act: The Direct Employment Offer Rule

Article 40-6 of the Worker Dispatch Act is a crucial provision designed to protect workers in situations of illegal dispatch, including gisō ukeoi. It creates a mechanism whereby the client company can be deemed to have offered direct employment to the workers.

Purpose:
The primary aim of Article 40-6 is to provide a remedy for workers who have been subjected to unlawful dispatch arrangements, offering them a pathway to more stable employment directly with the company that was actually benefiting from their labor and exercising control over their work.

Conditions Triggering the Rule:
Article 40-6, Paragraph 1, outlines several scenarios where the "deemed offer" of direct employment is triggered. These include:

1. Receiving dispatched workers for prohibited types of work (e.g., certain port transport, construction, security services).
2. Receiving dispatched workers from an entity not licensed to conduct a worker dispatch undertaking (excluding employment placement dispatch).
3. Exceeding statutory dispatch duration limits (either for a specific position or for an individual worker at an organizational unit).
4. Engaging in acts for the purpose of evading the application of the Worker Dispatch Act or other labor protection laws by receiving services under a contract for services or other similar guise, when in reality it is a worker dispatch arrangement (Article 40-6(1)(v)). This is the provision directly applicable to gisō ukeoi.

The "Deemed Offer" Mechanism:
If a client company engages in any of the prohibited acts listed in Article 40-6(1), it is deemed to have made an offer of an employment contract to the worker(s) involved. This offer is considered to be on the same terms and conditions (salary, working hours, etc.) as those under which the worker was engaged by the dispatching agency or the purported contractor.

Worker's Acceptance:
The worker has the right to accept this deemed offer. The law provides that if the worker expresses their intention to accept the offer to the client company within one year from the date they became aware (or should reasonably have become aware) of the violation, an employment contract is formed. There are complexities around when exactly the "offer" is deemed to have been made and when the one-year period for acceptance begins, which often depend on the specific facts and when the violation is identified or notified.

The "Purpose of Evading the Law" (偽装請負等の目的) under Item 5:
For gisō ukeoi cases, proving the client company's "purpose of evading the law" is key to triggering Article 40-6(1)(v). This doesn't necessarily require evidence of malicious intent. Courts may infer this purpose from the objective circumstances, particularly if the gisō ukeoi arrangement has been ongoing and systemic, and if the client company was, or should have been, aware that its practices did not align with a genuine contract for services. A client company can avoid the deemed offer if it can prove it was unaware of the violation and was not negligent in being unaware (the "good faith and no negligence" proviso in Article 40-6(1)). However, in sustained gisō ukeoi situations, proving this lack of negligence can be challenging.

The Osaka High Court Judgment of November 4, 2021 (Reiwa 3): A Case Study

The Osaka High Court judgment of November 4, 2021 (Reiwa 3 (Ne) No. 973) provides a significant recent example of the application of Article 40-6 in a gisō ukeoi context.

Anonymized Case Overview:
The case involved a manufacturing company (Company Y) that had a long-standing arrangement with another company (Company Z). Company Z supplied workers to perform specific manufacturing and inspection processes within Company Y's factory. Although this was structured as a service contract (ukeoi), evidence showed that Company Y directly instructed and supervised Company Z's workers regarding their daily tasks, work methods, and even aspects of their time management over many years. After Company Z terminated its operations and dismissed the workers, several workers claimed that the arrangement had been gisō ukeoi and that Company Y should be deemed to have offered them direct employment under Article 40-6.

The Court's Findings:
The Osaka High Court ruled in favor of the workers.

• Determination of Gisō Ukeoi: The court meticulously applied the criteria from MHLW Public Notice No. 37 of 1986. It found that Company Y, not Company Z, exercised substantial control over the workers' tasks, including detailed work procedures and production plans. Company Y also effectively managed their working hours. This led to the conclusion that the arrangement was indeed gisō ukeoi, not a legitimate service contract. The court noted that this situation had persisted since before the 2004 amendments to the Worker Dispatch Act, when dispatch in manufacturing was more restricted, indicating a long history of a problematic arrangement.
• Application of Article 40-6(1)(v) - The "Purpose of Evading the Law": Crucially, the High Court addressed the requirement of demonstrating Company Y's "purpose of evading the law." It stated that while the mere occurrence of a gisō ukeoi state does not automatically infer such a purpose, if such a state has been maintained routinely and continuously, then, in the absence of special circumstances, it can be presumed that the client company (or its representatives with contracting authority) knowingly received services with the objective of evading dispatch regulations. Given the long-standing and systemic nature of Company Y's direct control over Z's workers, the court inferred this evasive purpose. Consequently, the court also found that Company Y could not avail itself of the "good faith and no negligence" defense.
• Deemed Offer and Acceptance: With the conditions of Article 40-6(1)(v) met, the court deemed Company Y to have made an offer of direct employment to the workers. The workers had expressed their acceptance within the stipulated timeframe, leading to the formation of employment contracts between them and Company Y.

This judgment is significant for its detailed application of the gisō ukeoi criteria and its practical approach to inferring the "purpose of evading the law" from the sustained nature of the non-compliant arrangement. It signals that courts may take a dim view of long-term, systemic disguised contract practices.

Practical Implications and Compliance for US Businesses in Japan

For US companies operating in Japan, or those contracting for services from Japanese entities where labor is a significant component, the distinction between legitimate ukeoi and gisō ukeoi is critical. The risks associated with the latter, particularly the triggering of Article 40-6, necessitate robust compliance measures:

1. Thoroughly Scrutinize Service Contracts: When outsourcing work or engaging third-party service providers, ensure that the contractual terms genuinely reflect an ukeoi relationship. The contract should clearly define the scope of work, deliverables, and the contractor's responsibility for managing its own personnel and performance. Avoid clauses that grant your company the right to directly instruct or manage the contractor's employees' day-to-day tasks.
2. Maintain Clear Operational Demarcation: The most critical aspect is the actual operational reality.
   • Instructions and Supervision: Ensure that all work instructions, supervision, and performance management for the contractor's employees come from the contractor's own management, not directly from your company's staff.
   • Work Time Management: The contractor should be responsible for managing its employees' working hours, breaks, and leave. Your company should not be involved in these aspects.
   • Tools, Equipment, and Materials: Ideally, the contractor should use its own tools and materials. If your company provides them, this can be a factor suggesting a lack of independence on the contractor's part.
   • Integration into Your Workforce: Avoid treating contractors' employees as if they are part of your own team (e.g., including them in your internal reporting structures, performance reviews meant for your direct employees, or company-wide events in a way that blurs employment lines).
3. Educate Your Managers: Ensure that your managers and supervisors who interact with contractors' staff are trained on the legal distinctions. They must understand the limits of their interaction and avoid giving direct operational commands to individuals who are not your company's employees.
4. Due Diligence on Contractors/Dispatch Agencies:
   • If using legitimate worker dispatch, verify that the dispatching agency is properly licensed and that all terms of the dispatch agreement (duration, job scope, etc.) comply with the Worker Dispatch Act.
   • When entering into ukeoi contracts, conduct due diligence to ascertain that the contractor is a genuine business entity with the capacity and independence to perform the contracted work using its own managed workforce.
5. Regular Audits and Reviews: Periodically review your existing service contracts and operational practices to ensure they have not inadvertently drifted into a gisō ukeoi situation. Workplace realities can change over time, and what started as a legitimate ukeoi can sometimes blur at the edges if not carefully managed.
6. Responding to Potential Article 40-6 Claims: Be aware of the potential for workers to claim the benefit of the deemed employment offer under Article 40-6 if non-compliant practices are identified. Having strong internal compliance and clear documentation of your contractual relationships and operational practices is the best defense.

Conclusion

The Japanese legal framework provides for flexibility in workforce management through mechanisms like worker dispatch and service contracting. However, it strictly polices against arrangements that attempt to bypass labor protections through disguised contract work. Gisō ukeoi not only exposes client companies to regulatory sanctions but, critically, can trigger Article 40-6 of the Worker Dispatch Act, leading to a deemed offer of direct employment to the affected workers.

The Osaka High Court's judgment of November 4, 2021, serves as a potent reminder of the judiciary's willingness to look beyond contractual labels to the substance of the working relationship and to infer an intent to evade legal obligations from long-standing, non-compliant practices. For US businesses in Japan, proactive compliance, careful contract structuring, and vigilant operational management are essential to avoid the significant legal and financial pitfalls associated with gisō ukeoi and to ensure fair and lawful engagement with all members of their extended workforce.