With tax revenues plummeting, state governments are addressing the shortfall by taking a closer look at the way employers get work done. As Ice Miller reported in November 2009, the U.S. Government Accountability Office (GAO) started the ball rolling when it issued a report in 2009 concluding that the federal government was missing out on billions of dollars of tax revenue as a result of rampant worker misclassification. The GAO also concluded that the Internal Revenue Service (IRS) and the Department of Labor (DOL) were not doing enough to rectify the problem.
Both the IRS and DOL took heed. Earlier this year, the IRS commenced a three-year tax audit program designed, in part, to determine whether employers have misclassified their workers as independent contractors. The IRS has pledged to share the information it obtains with state governments, who, of course, are facing significant budgetary woes themselves. More recently, the DOL instituted a misclassification initiative of its own. The DOL intends to promulgate new record-keeping rules that it hopes will lead employers to discover misclassification within their ranks and then correctly classify the workers on their own.
Congress is considering new legislation as well. A bill titled the Employee Misclassification Prevention Act was introduced in April 2010. The bill seeks to require employers to keep records relating to workers who perform labor or services for them and to notify each worker of his or her status, prohibit retaliation for status-related complaints by workers, and, importantly, impose fines for misclassification.
Courts and government agencies apply multi-factor tests to determine if an individual is an employee or an independent contractor. In general, an employer/employee relationship exists when the employer possesses the right to control or direct the worker. In this context, control includes not only the intended result of the individual’s work, but also the details and means by which the work is to be accomplished. In contrast, to establish an independent contractual relationship, the independent contractor must be able to direct his or her own method for accomplishing the results required by the contract. The determination is extremely fact-sensitive; therefore, each practice and procedure which the employer has adopted (or adopts in the future) will directly impact upon the analysis.
Classification is an issue with far-reaching consequences. In addition to withholding income taxes and matching each employee’s contribution to Social Security and Medicare, employers generally contribute to the unemployment compensation fund and pay workers compensation premiums for their employees. They also often fund a host of benefits for their employees, such health insurance, 401K matching and pension contributions. Not surprisingly, employers who misclassify could face inquiry from a number of different government agencies, as well as unexpected lawsuits. Some repercussions are less obvious, however. For example, reclassification of misclassified workers could push some employers over the 50 full-time employee mark for coverage under the employer penalty provisions of the Patient Protection and Affordable Care Act, which becomes effective in January 2014.
What’s at stake? The IRS and state revenue agency will likely levy tax penalties on employers for deposit-related and reporting violations and demand payment of back taxes. In addition, employers’ failure to properly classify and treat workers as either employees or independent contractors may lead to liability for workers compensation, tort litigation, benefits, wrongful termination and various statutory civil rights violations, among others. As a result, employers may also be on the hook for back wages and other damages.
Businesses concerned with preserving independent contractor relationships with their service providers should regularly review those relationships to ensure that the service providers are actually functioning as independent contractors. Businesses should also consider entering into written agreements at the outset of the relationship that underscore the parties’ intent that the relationship be that of an independent contractor rather than employer-employee.
If you are concerned that your company may have improperly classified workers, now is the time to address the problem. Governmental interest in worker misclassification is more likely to intensify than wane in the coming months and years. A self-audit of how your company deals with and treats non-employee workers can reveal whether your classification of workers as independent contractors will stick. The lawyers in Ice Miller’s Labor and Employment Group can assist employers with the audit process, revise implicated policies and procedures, and, if necessary, communicate on the company’s behalf with applicable government agencies. Whether you find you have classified correctly or need to make changes, you will appreciate the peace of mind you gain and should feel prepared for the day the government comes knocking.
Germaine Winnick Willett and Ice Miller’s other labor and employment attorneys assist employers faced with employment discrimination, wage and hour, contract, and other employment-related litigation.
Contact – germaine.willett@icemiller.com
This publication is intended for general information purposes only and does not and is not intended to constitute legal advice. The reader must consult with legal counsel to determine how laws or decisions discussed herein apply to the reader’s specific circumstances.
