Burnham Brown Attorney, Andrew Shalauta, featured in the California Society for Healthcare Risk Management’s Fall 2009 Newsletter
“Employers Need To Know The Risks And Potential Liabilities In Using And Misclassifying Independent Contractors” by Andrew R. Shalauta, Esq.
During this economic downturn, business are increasingly turning to independent contractors to save on taxes, labor costs, and for the convenience of hiring specialized skilled labor for specific projects on a short-term basis. Unfortunately for employers, the risks and potential liabilities when using independent contractors are not well-known, and plaintiffs’ attorneys are catching on. There is a rise in misclassification lawsuits and unemployment claims in California so it is paramount for employers to ensure they are complying with the law.
Before hiring independent contractors, businesses should first be aware of the legal tests and IRS guidelines for maintaining independent contractor status. Just calling a worker an “independent contractor” does not make someone an “independent contractor.” Courts and government agencies will look at several factors to determine whether a worker is an independent contractor including the employer’s control over the work, whether the contractor can earn a profit or suffer a loss, and, whether the contractor is working for more than one firm. Not all factors, or any one specific factor, needs to be proven to establish a worker was an independent contractor. If a business fails this test, it can be very costly.
The tax costs of misclassifying an employee as an independent contractor are huge. Employers can be ordered to pay a percentage of the compensation paid, the employee’s tax withholding for Social Security, Medicare, and disability, plus interest. Employers can be ordered to pay back taxes for unpaid employer contributions for Social Security, Medicare and unemployment insurance. The IRS has additional penalties for failing to file tax returns. Criminal sanctions can include imprisonment up to one year and substantial fines. The Workers Compensation Appeals Board can also issue civil penalties, property liens, and stop orders.
The use of independent contractors can also lead to other unanticipated liabilities. An employer can be liable for harassment by an independent contractor in the workplace. An independent contractor can also sue the employer for harassment. An employer can also be sued for discriminatory conduct by a purported independent contractor under the theory that the independent contractor was acting as the employer’s “agent”. These scenarios create potential liability through contractors that the company is not even supposed to control.
An independent contractor can also sue the hiring company directly claiming he or she was an employee and entitled to employment benefits. Under the same pretenses, the independent contractor can also bring a workers compensation claim or file for unemployment insurance benefits. An independent contractor can also sue the employer for personal injury on the premises because workers compensation laws do not apply.
Disadvantages for using independent contractors also include losing control over how the work is performed and the right to terminate the worker at will. Independent contractors should not be required to follow training or instructions on how to perform the work. Independent contractors should not be supervised on work performance. Employers generally cannot control the hours of work or other aspects of their day-to-day employment.
To ensure compliance with the law, businesses should conduct audits to ensure that every independent contractor working for the company can meet the legal tests. Requiring a worker to receive training, attend meetings, follow instructions, be accompanied by an experienced employee, or, regularly report to the employer, are all facts that tend to show that individual is an employee, and not an independent contractor. Companies should also review their independent contractor agreements to make sure they include all necessary provisions. Companies should have an invoicing system for paying independent contractors. Companies should also make sure that independent contractors are maintaining proper insurance and paying their required taxes.
Andrew Shalauta is a Partner at Burnham Brown and member of the firm's Employment Practice group. Mr. Shalauta specializes in employment litigation and counseling for businesses. He also conducts seminars on wage and hour, discrimination, sexual harassment, and other employment issues.