Misclassification of Independent Contractors is Risky Business

By Kristen Harris

More opportunities for independent and remote work also means more opportunities to run afoul of employment law. There are a growing number of people who are interested and open to flexible work options and, understandably, companies want to take advantage of their skills and talentsUpfront disclaimer: I am not an attorney or legal professional. This is general information only; be sure to consult with your own legal, tax and employment experts. Okay, back to the topic…

Businesses are utilizing a wide range of arrangments, to get work done, including full time and part-time employees, freelancers, temporary staffing employees, contracting firms, remote workers, and more. With all of these different arrangements, it can be challenging to know how to engage each person in a legally compliant way.

Today there are still only two ways to classify any worker from a tax and employment law perspective: as an Independent Contractor (1099) or and Employee (W2). Misclassification can be a serious issue, whether purposeful or accidental, so it’s important to make the right choice.

The IRS, federal and state government agencies are well aware of the temptation to ‘misclassify’ a worker by treating them as an Independent Contractor instead of an Employee. It may seem simpler, easier and advantageous from a tax perspective, but federal and state entities are continuing to crack down on businesses that misclassify workers and the consequences can be serious.

So, how do you get it right? There are two key things to keep in mind.

First of all, regardless of what the worker may prefer, the onus and the risk to properly classify workers are on the business. With the potential new tax advantages, some individuals may request to be handled as an Independent Contractor, but it’s up to you to decide if they truly qualify.

Second, the default is for every worker to be an Employee. So, if you want to handle someone as an Independent Contractor, there must be significant evidence that the relationship qualifies.

However, there is no clear set of rules to determine whether someone is an Independent Contractor or Employee. There are common law rules provided by the IRS but ultimately you have to make a judgment call.

You’re looking for what degree of control and independence the worker has in their relationship with you in three categories: Behavioral, Financial, and Type of Relationship. How much do you control what, how and where they do their job? How are they paid and reimbursed for expenses? Are there contracts, benefits, and is the relationship ongoing?

If you really want the IRS’s help in making this determination, you can fill out Form SS-8. Or perhaps you could just work through the questions on the form and the answer will become clear.

Wondering what the risks are to misclassifying a worker? You may be held liable for employment tasks for the worker, plus fines and penalties related to failure to withhold and remit taxes, pay insurance or pay overtime. Workers who feel they have been misclassified may also file a Form SS-8 requesting a review of their work situation.

If you realize that some of your Independent Contractors need to be reclassified as Employees, the IRS does offer an optional Voluntary Classification Settlement Program to help you get on the right track. Or, many companies avoid the risk by working with a qualified firm to assess and take care of non-employees. It’s what we do every day–we’re happy to help!