The Internal Revenue Service is being given funds for an additional 100 new "enforcement personnel" in the 2011 budget as part of a $25 million plan to crack down on the misclassification of workers as independent contractors. According to press releases, the plan is expected to "more than pay for itself" in fines and eventual additional income taxes.
Estimates are that compliance with job classification laws adds about 30% to the cost of labor since if a worker is truly an "independent contractor" the employer doesn't have to withhold Social Security and Medicare taxes; pay overtime; provide vacation or sick leave pay otherwise given to employees; pay workers' compensation insurance; or even worry about minimum wage.
When you consider that about half of the new jobs created as a result of Stimulus funding are in the construction field, there is likely to be a lot of opportunity for improved compliance. It is not hard to make mistakes, however, since even the U.S. Supreme Court has said that "[f]ew problems in the law have given greater variety of application and conflict in results than the cases arises in the borderland between what is clearly an employer-employee relationship and what is clearly one of independent entrepreneurial dealing."
And the law has gotten more, and not less, complex in the last 66 years. What has not changed, however, is that in the event of a tie, the decision goes to the government: the employer has the burden of proving that a particular worker was not an employee.
While there is no "bright line" legal test for whether a worker is an employee or independent contractor, the bottom line question to be answered is "Does the employer have control, or the right to control, the person's work?" This is a shorthand description of a whole list of "common law" factors courts look at. The ones most relevant to construction are:
- How much control does the employer have over the details of the work, versus just the right to reject the end product?
- Is the worker in a distinctly different occupation (computer programmer hired by contractor vs. hired by computer programming firm)?
- Is the work a type that is commonly done independently without supervision?
- Is there a high level of skill required for the work?
- Who provides the supplies and place of work?
- How long will the services be provided? The longer the relationship, the greater the odds that it will be considered "employment."
- How is the person paid — by the hour, the day or when the final product is delivered?
- How did the parties act — did they believe they were creating an independent contractor arrangement?
The IRS, however, has its own set of criteria that it uses in determining whether an employer is liable for payments of Federal Insurance Contributions Act (FICA), Federal Unemployment Compensation Act (FUCA) and income tax withholding. If these laws are violated, the IRS can impose penalties in addition to the unpaid sums. IRS breaks it down into 20 categories, looking into whether the employer trained the worker; whether the worker submitted reports to the employer; whether the worker can work for multiple employers at the same time, etc.
And just to keep you on your toes, when it is investigating potential violations of the Fair Labor Standards Act , 29 U.S.C. §201 et seq. (payment of minimum wage and overtime), the U.S. Dept of Labor has its own standards ("economic realities" tests) which, while generally similar to the ones mentioned above, focus on slightly different facts. Since the penalties for violations cover not only payment of the back-due wages, but also liquidated damages, fines of up to $10,000 and six months' imprisonment for willful violations, this is serious, serious stuff.
Additionally, states are free to have their own definitions for the purpose of enforcing their own laws. For example, California and Massachusetts both have separate laws.
There are good business reasons for wanting workers to be considered employees and not independent contractors: to have the lawsuit immunity that comes with workers' compensation systems and to control creative works (such as website design and content, for example) under the Copyright Act of 1976. Those are just two examples of many good reasons. But if your business uses or wants to start using independent contractors, now would be an excellent time to engage a firm experienced in employee laws to conduct an audit of your practices. You will face fewer penalties and prosecution for self-reported violations and are more likely to find agencies willing to work with you on payment plans as well. This hunt for non-tax revenue is getting more serious every day.
Susan McGreevy is a partner at Stinson, Morrison, Hecker LLP, Kansas City, Mo., 816/842-4800, e-mail to [email protected].