In this unfortunate day of the “consultant” and the independent contractor, many businesses see an opportunity to add to their work force or cut expenses with “temp” workers or independent contractors. However, there is a mish-mash of employment laws that need to be considered by the employer, lest it become liable for taxes, workers compensation benefits, unemployment benefits, liability, overtime and medical leave pay.
My MacBook defines “conundrum” as “a confusing and difficult problem or question”, and that it is. Beyond just the IRS and its obtuse definition of independent contractor with all the factors that must be considered (and even then, there is no reliable, predictable way to determine if a person qualifies as an IC, other than through an audit), there are other federal and state laws that distinguish between employee and IC; and which furthermore have their own, not always consistent with each other, tests to determine status.
Just to list a few:
Internal Revenue Service
The IRS’ interest in classifying employees v. independent contractors is to determine who pays the taxes owed to the federal government (and if they paid the proper tax). Some of the rules the IRS applies when determining employment status are:
• Whether the employer can control what the worker does and how s/he does it
• Are the business aspect of the job controlled by the employer or the worker?
• Who supplies the tools of the trade, who reimburses the worker for expenses?
• Is there a written contract, are employee-type benefits given (e.g. pension)?
• For how long will the relationship continue; is the work performed a key aspect of the business?
The IRS on its web site offers this guidance:
“The general rule is that an individual is an independent contractor if the payer has the right to control or direct only the result of the work and not what will be done and how it will be done …What matters is that the employer has the legal right to control the details of how the services are performed.”
Fair Labor Standards Act
The FLSA (and similarly the Family and Medical Leave Act) governs minimum wage and overtime pay for employees, along with record keeping requirements. It is often subverted through converting hourly employees to “salary” or, for the case of this discussion, independent contractors.
The FLSA defines “employ” as “to suffer or permit to work.” Not very helpful. It is helpful to know, however, that it is interpreted to cover as many workers as possible. A worker is an employee is s/he is “economically dependent” on the employer, whereas someone is an independent contractor if s/he is “in business for” him/herself. To make matters worse, courts interpreting the FLSA will review a variety of factors to determine “employment” status, and these factors are not consistent case-by-case. Courts will review the factors, then determine employment status based on the totality of the circumstances. The factors include:
• Is the worker an integral part of the employer’s business
• Does the worker’s skill effect his opportunity for profit or loss
• What are the relative investments of the employer and the worker
• The worker’s skill and initiative
• The permanency of the relationship
• Employer control of the relationship.
I could further break down and discuss each factor, but for this blog post it’s enough to be aware of the factors.
Workers Compensation Statutes
Workers Compensation statutes vary by state. Generally speaking though, an employee trades his right to sue an employer for injuries sustained at work (technically, they couldn’t under common law) in exchange for easier to obtain benefits, albeit limited, for on the job injuries. An independent contractor, on the other hand, can sue the entity s/he works for any injury, with no upper limit on liability.
In this context, the decision whether someone is an employee or independent contractor can affect whether the “employer” has an obligation to purchase workers compensation insurance under state law (and get penalized if they didn’t) or whether they need liability insurance; and what liability exposure the employer will have.
The general test for “independent contractor” or “employee” status is similar to the IRS’, and includes such additional items as whether the person sets his own hours of work and schedule; whether they have a business license.
Here’s where it gets fun: Each state has its own WC statute and its own definition of “employee”. As an example, New York says that most individuals providing services to a business are “employees” for workers compensation purposes. There are *statutorily defined* exceptions. In the construction industry there is a presumption of employment for individuals. In trucking, the presumption is “employee” unless the person is transporting goods under their own Bill of Lading and their own DOT number. Otherwise, to be an IC one must satisfy many of the factors discussed in this post, plus such additional ones as “has their own business cards” or “has its own liability insurance” and “operates under his own business permit.”
If you were hoping for an easy answer, sorry, there isn’t one. As a lawyer working with a business, I will do my best to draft contracts, agreements, employment manuals, and advise my client on these various issues. Ultimately however, the business owner must make a reasoned decision based on their unique circumstances, one which they can hopefully justify to whatever authority is reviewing the business’ employment practices. Unfortunately, there is no way to give a “right” answer until the government shows up and does their audit.
If your business needs employment advice, call me in the Asheville area at (312) 671-6453.