Beware Employee Misclassification, Tread Carefully
The root of many lawsuits seeking unpaid overtime wages is company misclassification of workers as independent contractors. One such suit recently filed against Northwestern Mutual Life Insurance Co. seeks $200 million dollars for a proposed class.
Many companies have historically misclassified employees as independent contractors, often due to genuine confusion over conflicting government rules and court decisions in this area. However, the motivating factor is sometimes an effort to avoid overtime pay requirements, payroll-related taxes, employment benefits and other obligations.
The federal and many state governments are recognizing that misclassifying workers as independent contractors denies the workers protections under the wage and hour laws, precludes such benefits as workers’ compensation and unemployment insurance payments, and denies protection under some non-discrimination laws. In response, these government entities are enacting new legislation and stepping up enforcement of existing regulations to ensure that workers are properly classified.
- In early June 2009, Colorado enacted a new law that will impose harsh penalties—up to $5,000.00 per employee for a first offense and up to $25,000.00 per employee for subsequent violations—on employers that misclassify employees as independent contractors.
- Maryland has instituted the similar Workplace Fraud Act which will go into effect in October 2009.
- States such as New York and Massachusetts have created multi-agency task forces to effectively route out worker misclassification.
At the federal level, the IRS is in the midst of a misclassification crackdown. Also, it is expected that new federal legislation will be taken up by Congress that will punish employers for employee misclassification since President Barak Obama sponsored proposed legislation, such as the Independent Contractor Proper Classification Act, when he was a member of the U.S. Senate.
Here are some factors to consider. While different agencies evaluating employee misclassification apply different tests, the issue is generally one of control. In a true independent contractor relationship, the client company (the one receiving the services provided) has a right to judge only the results produced by the independent contractor – not to direct or control any aspect of the mechanics that produce the result. Likewise, a true independent contractor has complete financial control of his or her operation, makes required investments, covers operating expenses and experiences a profit or loss distinct from that of any client. Additionally, the agency addressing the issue will consider factors such as whether the contractor is a separate business entity that holds itself out to the general public by advertising its services, is separately incorporated, has its own bank account and possibly its own general liability insurance.
More and more workers who had been classified as independent contractors are claiming that a former client company should have classified them as employees, and thus owes them back overtime pay. Because they considered these workers independent contractors, such companies often have no records of hours worked by these individuals, which greatly limits their ability to defend themselves in the multi-million dollar lawsuits many are now facing.
Thus, given the increased attention to this area, all businesses would be wise to be more careful than ever when using workers classified as “independent contractors.”
