Are You Misclassifying Workers?

In April 2010, a senator and a group of representatives introduced a bill called the Employee Misclassification Prevention Act in both houses of Congress. Its goal is to require employers to keep records of independent contractors (ICs) they use, and penalize employers that misclassify employees as ICs. Then in September, another group of legislators introduced The Fair Playing Field Act of 2010, also in both houses. This bill would end the current moratorium on IRS guidance regarding worker classification, and increase tax penalties for misclassifying workers.

Both bills were referred to committee, and lacking bipartisan support they aren’t likely to be reintroduced in the current Congress. But this doesn’t mean that the battle is over. The broad goal of this legislation is also being pursued through regulation, as the U.S. Department of Labor (DOL) has placed a high priority on reducing worker misclassification; and it has identified the construction industry as one of the largest offenders. Although large commercial, industrial and home building contractors will obviously be first in the DOL’s sights, all contractors that use ICs will be subject to this enhanced focus – and the motivation is strong. The General Accountability Office is said to have estimated that in one year, the government lost $4.7 billion in federal income and employment tax revenue through improper classification of workers.

To address this, the DOL plans to “redouble its efforts to combat worker misclassification” by funding state grants to improve data-sharing between states and the IRS (and other federal and state agencies - click here). According to this budget report, the DOL grants will also pay for targeted audit strategies, and a cross-state agency task force to “target egregious employer schemes to avoid taxation through misclassification.”

In its 2011 budget, the DOL calls for a “joint Labor-Treasury initiative” to coordinate federal and state efforts, with 100 new hires focused on misclassification and litigation. To expand on that, the 2012 budget would allow for a high performance award program for states that are most successful at prosecuting employers. The bonuses paid will be used to upgrade states’ programs for detection and enforcement.

The DOL’s We Can Help program encourages workers to notify the department if they think they’ve been improperly treated by an employer. To deal with the increase in investigations produced by this campaign, the DOL’s Bridge to Justice program refers claimants to private trial lawyers through the American Bar Association – which has spiked misclassification litigation.

And last, but not least, there’s a proposed rule called the Right to Know Under the Fair Labor Standards Act which will require employers to perform an analysis of all their ICs and notify them of their reasons for classifying them as such.

So if you use ICs in your business, don’t assume that the mere existence of a written contract will be sufficient to immunize you from the efforts of the DOL or its partners. Since neither the DOL nor IRS have a “bright line” test, you should familiarize yourself with the similar but different factors each department uses on a case-by-case basis to determine IC status, and make sure your business practices are compliant.

(My July 2010 web column on this topic can be found here)