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Misclassification of Independent
Contractors: Addressing Costly Industry Trends
and Past Practices This webcast will begin promptly at 12:00 PM Eastern
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Introduction Businesses must properly evaluate and classify the types of relationships they have with their workers
Employee: person paid to perform work under the control and direction of another Independent Contractor: provider of services under the terms of a contract who controls the means by which the outcome is achieved
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Independent Contractor
• Who is an independent contractor? – Worker who contracts
with individuals or businesses to provide services in exchange for compensation
– The worker does not regularly work for any particular business
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Independent Contractor • A contract controls the relationship between the
business and the independent contractor (not an employment contract) – Fees for service – Defined time to perform service/tasks – Defined outcome – Method and manner of work determined by worker – Economically independent – Worker responsible for his/her taxes – No eligibility for benefits with contracting business
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Employee • Who is an employee?
– Worker who works directly for a business
– Subject to significant oversight
– Receives fringe benefits and other perks because of relationship
– Protected by federal, state, and local laws (discrimination, etc.)
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Employee
• An employment relationship governs the interaction between the individual and business – Paid wages and company-sponsored benefits – Continuous employment (at-will) – Taxes withheld and paid by employer – Economically dependent upon the employer – Subject to internal policies and procedures
• Individuals also enjoy benefits of being independent contractors
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Benefits of Independent Contractor Relationship
Independent
contractors do not have standing under
numerous employment laws
• Fair Labor Standards Act • Title VII* • Equal Pay Act • Age Discrimination in Employment Act • Americans with Disabilities Act • Occupational Safety and Health Act • Worker Adjustment and Retraining
Notification Act • Employee Retirement Income Security
Act • Affordable Care Act • National Labor Relations Act
compensation structure is governed by the contract
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Independent Contractors • Title VII of the Civil Rights Act
of 1964 – Race – Religion – Sex – National Origin – Color
• Businesses cannot discriminate against independent contractors when contracting
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Independent Contractors
• No employee benefits are provided to independent contractors – Health insurance – Retirement or pension plan – Stock options – Paid vacations and sick days – Life insurance – Disability insurance – Fringe benefits
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Affordable Care Act • ACA compliance mandates coverage depending
upon how many employees work for an employer
• Large businesses must submit returns to the IRS regarding coverage offered or not offered – Report on number of employees – Classify employees under the “Common Law”
test • Contracting with independent contractors may
reduce employee workforce and limit ACA coverage
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Tax & Insurance • Tax withholding and insurance coverage is
required for employees • No such obligations for independent
contractors – businesses can avoid the obligations – Federal, state, local income tax – Social Security and Medicare – Federal unemployment insurance taxes – State unemployment insurance taxes – Workers’ compensation insurance
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Misclassification
• Land agents • Rig workers
– Laborers – Riggers – Operators
Employer tells the worker that s/he is
an independent contractor
Independent contractor enters into contract for
specific work
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“We’re going to 1099 you.”
Misclassification
Private Lawsuits
• Back pay, including overtime compensation
• Employee benefits, including stock options, retirement benefits, health insurance
Behavioral Does the company control or have the right to control what the worker does and how the worker does his or her
job?
Financial Are the business aspects of the worker’s job controlled by the payer (how worker is paid, whether expenses are
reimbursed, tools and supplies)?
Type of Relationship
Are there written contracts or employee type benefits (pension, insurance, vacation, etc.)? Will the relationship continue and is the work performed a key aspect of the
business?
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Behavioral • A worker is an employee if the business directs and
controls the worker, or has the right to do so. • A business that controls what a worker does and
how she/he does, it has an employment relationship
• Behavioral controls – Type of instructions given – Degree of instruction – Work evaluation – Training needed or provided by business
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Behavioral
• Instructions supporting employment relationship: – When and where to work – Which tools, equipment, supplies to use – Which workers to hire or use to assist – Where to purchase supplies and services – Control over how the worker delegates tasks – Order/sequence of how work is to be
completed
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Financial
• Focus is on whether business controls the economic aspects of the worker’s job (not just compensation) – Compensation (bi-
weekly direct deposit) – Expense reimbursement – Tools and supplies
provided by business
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Financial • The IRS expects independent contractors to:
– Make significant investments in tools, training, office space, and similar resources. No dollar amount threshold.
– Pay their own expenses – Earn profit/loss per project (not just paid wages
for completing work, but earning rewards for efficiency on their own balance sheet)
– Offer services to general public – Be compensated per task, not per hour or pay
period
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Type of Relationship
• Focus on the structure of the relationship between the employer and worker
• How does the worker view the relationship?
• How does the employer view the relationship?
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Type of Relationship • Written contract
– Starting point to examine the relationship, but not conclusive • Employee-type benefits
– Pension plan contributions, health insurance, vacation pay • No end date
– Specific time period or project is expected of independent contractor; continuous relationship appears to be employment relationship
• Key activities of the business – Activities completed by the worker that are necessary for the
business to function point toward an employment relationship (land agents)
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Other Classification Tests The Darden Common Law Test
– Used in Title VII, ADA, ADEA, and ERISA issues to determine employee status
– The test focuses on the hiring party’s right to control the manner and means of work performed
– Examines whether worker maintains a corporate entity
Hybrid Test – Combination of Darden and
economic realities test – Sometimes used to
determine independent contractor status under Title VII and the ADEA
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State Law Tests
• Laws vary state to state regarding the classifications of workers
• Coordinated efforts between states and federal agencies
• Classification at state level may be pertinent for state law claims
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Best Practices for Classification
Audit Workforce – Review existing worker
classifications under the framework examined
– Determine whether the relationships appear to be independent or reliant
– Focus on control and right to control
Train Personnel – Train employees with
authority to hire and classify under the tests
– Monitor relationships with independent contractors
– Monitor communications published to independent contractors
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Recordkeeping
• Maintain copies of written agreements – Current, revised, and expired
• Maintain contractor’s Employer Identification Number • Record all payments made to the independent
contractor – Amounts – Dates – Method
• Copies of 1099-MISC – Including those returned by USPS
• All documents supporting independent contractor relationship
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Mitigating Risks
Request IRS Audit – Utilized Form SS-8 – Six months or more for
determination – May be used under
Section 530 for safe harbor
– Be cautious that determination from IRS is conclusive
Review Contracts – Incorporate language
that ensures both parties understand the relationship
– Remove language that provides employer with the right to control method and means of work
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Voluntary Classification Settlement Program
• VCSP offered by the IRS • Businesses may conduct
workforce audits and reclassify independent contractors as employees
• Reclassification results in a penalty fee paid to IRS, but it is a fraction of tax liability for most previous year
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QUESTIONS?
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