Is Your Contractor Really Independent?

I talk with a lot of small business owners who tell me they are using Independent Contractors (I/Cs) rather than hiring employees. But have they really thought it through? The one thing few companies are doing when making the decision between I/Cs and employees is checking the legal liability of their decision.

Did you know that the IRS, Department of Labor, state agencies, Congress, state legislatures, courts, class action attorneys, and unions care about your decision? What those entities have in common is that they assume your worker is an employee and that it’s your responsibility to prove that you are using an I/C. IRS calculates it loses $3-5 billion per year because of misclassified workers and has created a new audit program in an effort recoup some of these losses.

The biggest determining factor seems to be the level of control you or the workers have regarding behavior, finances, and the relationship. Although each entity has its own testing requirements, an I/C is likely to:

• Have a financial stake by risking a profit or loss from the work;
• Furnish his own tools and/or equipment needed to complete the work;
• Be paid by the job rather than by the hour;
• Provide similar services to more than one company;
• Invest in his own business, tools/equipment, and facilities;
• Pay his own business and travel expenses;
• Hire and pay for any helpers needed to complete the work; and
• Set his own working hours and days.

Misclassifying workers is seen by the government as cheating. Statistics show 7-15% of workers are misclassified and 15% of employers have misclassified workers. Now all this sounds frightening but do you know who is the scariest and most likely to start all your legal and financial problems? That worker you classified as an I/C.

The predominant problem I see is that the workers you are hiring as I/Cs aren’t seeing themselves as businesses. A signed I/C Agreement is barely worth the paper it’s printed on if that I/C doesn’t have the business mindset. That mindset means they are truly operating like a real business, they have other clients, and take on jobs over which they have total control except for the agreed-upon outcome.

Instead, a worker agrees to be an I/C because you’ve asked them to and they follow your instructions, use your tools/equipment and facilities, and are paid for the time worked. Then, when you don’t need them any more, they file for unemployment and start the governmental nightmare for you by triggering an EDD (Employment Development Dept.) audit.

Because misclassifying an employee is a wage and hour law issue, California can collect unpaid payroll taxes and unpaid overtime hours for the previous four years… plus the associated fines and penalties. It’s not pretty and it’s very expensive.

So, just how sure are you that you have properly classified your workers? If you’re not positive that I/C is operating as an independent business, you may have a problem. Sorry, but there’s really no cheap and easy fix here. However, being proactive in correcting misclassifications is usually less costly and looks better for your company than just waiting until you’re sued or audited.

AN ALTERNATIVE TO HIRING EMPLOYEES:  Rather than making the mistake of misclassifying workers as Independent Contractors, consider hiring temporary employees through an agency. Yes, you’ll pay more per hour but you won’t have to worry about unemployment, benefits, workers’ compensation insurance, payroll taxes, or the fines and penalties of misclassifications. Plus you can swap out workers if they aren’t working out for you!