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The Cascading Perils of Independent Contractor Misclassification

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In the latter half of 2015 both the IRS and the Department of Labor (DOL) issued guidance emphasizing the importance of proper worker classification for businesses. As we return from the holiday break and dive into 2016 it is a good time to review the potential risks of worker misclassification and discuss effective risk mitigation strategies.

Corporate leaders for Human Resources, Legal, and Procurement will recognize that these government publications also effectively serve as forecasts of enforcement trends by the government agencies who publish them. As a result, strategic leaders will prepare accordingly so as to mitigate potentially significant legal exposure.

The Risk of Improper Worker Classification

Both the DOL and IRS are focusing on one of the most common errors made by businesses – the misclassification of a worker as an independent contractor, when in fact the individual should be properly classified as an employee.

The worker misclassification problem plagues employers of all sizes – from the smallest local business to publicly-traded global corporations. It is also arguably one of the most costly employment law mistakes a company can make since it can quickly grow in scope. Failure to properly classify a worker may result in paying for the same error on many fronts:

  • Taxes, interest, and penalties: First, from a tax perspective, the employer will be liable to the IRS for certain unpaid employment taxes, together with interest and penalties.
  • Exposure to other agencies, laws and regulations: Separate and apart from the IRS, various other Federal and state agencies may bring an enforcement action against the employer. For example, pursuant to the Fair Labor Standards Act, the DOL could allege that by misclassifying its workers as independent contractors, the employer arguably denied its employees important workplace protections such as minimum wage and overtime compensation. To mitigate this the DOL launched a comprehensive “Misclassification Initiative” which seeks to coordinate efforts respecting information sharing and enforcement of these issues among Federal agencies (e.g., Employee Benefits Security Administration, OSHA, Office of Federal Contract Compliance Programs and the Office of the Solicitor). The DOL currently has executed information-sharing Memorandum of Understanding (MOU) agreements with 27 states. As a result, one simple and oftentimes innocent misclassification could expose an unwitting employer to liability for violations of laws concerning family and medical leave, unemployment insurance, worker’s compensation, workplace safety, employee benefits and/or employment verification. The consequences for an employer misclassifying workers, can subsequently prompt investigations by, and penalties from, a host of other Federal and state agencies.
  • Class-action lawsuits: The failure to properly classify employees can even result in a class-action lawsuit from the workers themselves. By way of example only, following a 2014 Ninth Circuit ruling that FedEx misclassified its drivers as independent contractors, news outlets reported discussions regarding a $228 Million settlement between the company and a class of its drivers.

Conclusion

It is always a good practice for every organization and its management team to ensure that the business is in full compliance with all applicable rules and regulations surrounding worker classification. The good news is that businesses can be proactive instead of reactive in regards to compliance. For example, a company can engage an independent contractor compliance and engagement expert, like TalentWave, to confirm that the business is mitigating the risk and gaining the maximum value from independent workers. As strategic business leaders know, it is far better to spend time and effort to get these matters in order on the front-end, rather than after a Federal or state agency has initiated its own audit.

 

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