Independent Contractor usage Targeted

Increased Funds Requested for Enforcement of Misclassified ICs

If approved, the budget would set aside $240 million for initiatives specifically related to enforcing the misclassification of workers as employees rather than independent contractors.  It is not surprising to see this on the budget, given that this provision is projected to deliver $1.3 billion in revenue over just two years.  Some might consider this a worthwhile investment.

While the Department of Labor’s budget request is$1.1 billion dollars less for fiscal year 2012, it would still increase spending for agencies regulating employers. The budget includes the following requests that are specific to worker misclassification:

“In FY 2012, the Department will redouble its efforts to combat worker misclassification by investing $46 million for a multi-agency initiative of OFFCP, the Wage and Hour Division, OSHA, the Office of the Solicitor, and the Employment and Training Administration, which will fund state grants that address worker misclassification within the context of the unemployment insurance program.  This initiative will help level the playing field for employers who abide by the law and provide employees with their rightful pay and benefits…”

“…The FY 2012 Budget Request includes an increase of $24,711,000 for an initiative focused on establishing capacity to address misclassification within the Federal/state administered Unemployment Insurance program. The first component, which was included in the FY 2011 Budget, which would provide states with the opportunity to compete for grants to: increase their capacity to participate in data sharing activities with the IRS and other Federal and state agencies; implement targeted audit strategies; establish a cross-state agency task force to target egregious employer schemes to avoid taxation through misclassification; and to develop education and outreach programs.”

Incentives to Enforce Misclassification

“When employees are classified as independent contractors, whether by design or because the rules are unclear, they are denied access to critical benefits and protections, at significant cost to government at all levels,” said Vice President Joe Biden.  He applauded senators Kerry and McDermott for introducing the bill, as stopping worker misclassification is a priority for the President’s Middle Class Task Force.

Senator Kerry released a press release with additional details regarding this bill and its goals. 

The Fair Playing Field Act of 2010 will:

• end the moratorium on Internal Revenue Service (IRS) guidance addressing worker classification;

• require the Secretary of Treasury to issue prospective guidance clarifying the employment status of individuals for Federal employment tax purposes;

• amend the provisions of the Tax Code that provide for reduced penalties for failure to deduct and withhold income taxes and the employee’s share of FICA taxes;

• require persons who contract independent contractors on a regular and ongoing basis to provide a written statement to each independent contractor of the Federal tax obligations of independent contractors, the labor and employment law protections that do not apply to independent contractors, and the right of the independent contractor to seek a status determination from the IRS; and

• require the Secretary of the Treasury to issue annual reports on worker misclassification.

This bill comes in the wake of last year’s Taxpayer Responsibility, Accountability, and Consistency Act of 2009, and this year’s Employee Misclassification Prevention Act; both targeting this specific issue of independent contractor misuse.

In recent employment tax audits, cable installers, actors, ground-service delivery drivers, and even exotic dancers to name a few service provider types have raised a red flag with the ever so watchful IRS. So what specifically, about these service providers  rocked the IRS’s boat?   I am sorry to say that there is no definite answer, as many are the factors that will weigh in risk wise, when paying a service provider as an independent contractor. Besides,  judging by one of Massachusetts’ recent (and über strict) guidelines, one safe bet is to only engage contractors who perform services that are unrelated to your usual or core business functions.

Who controls how the worker does the work?

Businesses with a lower appetite for risk should keep in mind that 1099/Independent Contractor compliance risk mitigation will more than likely have endless shades of grey when discussed with an IRS auditor. Nonetheless, most experts will agree that it truly boils down to the amount of control that a company has over the “Independent Contractor” as well as the amount of investment that the individual has in their business.

The control factors that will tip the scale and point toward an employee type of relationship are commonly known as behavioral control.  The IRS states that behavioral control refers to facts that show whether there is a right to direct or control how the worker does the work.  The items below may be interpreted as control factors when it is the business that determines them for the worker:

• When and where to do the work
• What tools or equipment to use; especially if the equipment is provided by the business
• What order or sequence to follow when performing the work
• Attend staff meetings
• The services are provided onsite at the business’ location
• Degree of instruction
• Training.

A worker is an employee when the business has the right to direct and control the worker.

Amount of Investment in the Business

In contrast, the amount of investment a person has in his or her business will also weigh in to the IRS’s assessment.  Investment in business, meaning, what steps has the independent contractor taken to differentiate themselves from an employee and substantiate their status.

To preserve your IC status, a legitimate independent contractor should consider these basic items to avoid being reclassified as an employee:

• Make services widely available (business card, website, vs. word of mouth)
• Have multiple clients
• Work off site
• Obtain all necessary licenses/permits

Take into account that no specific factor (behavioral control, financial control, or type of relationship) will solely offset the IRS worker classification scale the next time your business decides to categorize a certain service type as “low risk”.  As the cable installers, actors, ground-service delivery drivers, and exotic dancers await a ruling on their cases, the IRS will continue to suitably weigh in all the details and formulate a decision based on the overall blend of these factors.

On Tuesday the Attorneys general from New York, New Jersey and Montana issued a letter of warning to FedEx regarding its current independent contractor driver model.  If FedEx would not abandon its current independent contractor model for home delivery drivers they would be forced to bring suit against the shipping giant. 

The letter contained harsh accusations like “blatantly misclassifying its drivers”; FedEx Ground has denied these individuals the employment rights guaranteed by law. Practices which would support the allegations of worker misclassification and cited by the AG’s; the work performed is a core competency of FedEx Ground, drivers integrated into business functions of the company, determines the hours drivers work, how they load and deliver packages, and limits the drivers ability to compete other employment. The inability to work for the competition clearly creates financial dependency on Fed-Ex similar to that of an employee.  

More than 1,000 drivers would be impacted by the changes should FedEx cave in under the pressure from this powerhouse. FedEx must respond with a decision by October 27, 2009 a deadline that is fast approaching.  Should Fed-Ex disregard the letter the AG’s will have little choice but to file suit. The AG’s are confident they would win the suit based on its findings during the investigation of FedEx worker practices. According to the AG’s there is more than enough evidence of worker misclassification. 

The suit is being called a “multistate effort” and this is not the first time this issue has come up with Fed-Ex. Earlier this year in June attorneys general from six other states wrote to FedEx Ground, demanding changes to the existing driver model. States are teaming up forming a task force in hopes of pressuring FedEx Ground to change its driver business model.

Larry the cable guy was hired by RCN as an independent installer where he happily worked for years.  Suddenly Larry loses his job, has no money and then decides to file for unemployment where he is turned down. Seems independent contractors are not eligible to collect unemployment benefits. Larry learns had he worked as a regular RCN employee he would be eligible to draw benefits and receive a weekly pay check. Larry gets an idea and a lawyer who claims Larry was misclassified as an independent contractor when he really should have been an employee.  Larry’s lawyer files suit against RCN on Larry’s behalf and oh by the way several other cable guys who also were misclassified as independent contractors. What started out as a story of one individual who lost his job and needed money quickly turns into a class action law suit thrusting a cable installation company into the hot seat. The cable guy story broke in June 2009.  

It’s now fall and Larry is in the news once again this time suing Comcast Corporation for the same reason he sued RCN; employee misclassification.  Seems Larry had multiple clients err employers in 2009 with RCN and Comcast named as such. This suit is slightly different in that a third party has been added to a complex equation. Triwire Engineering a subcontractor for Comcast is also named accused of bank rolling the payroll for the cable giant. According to Larry he worked as a Comcast installer paid through Triwire from March until August then suddenly fired after TriWire allegedly learned of his suit against his previous employer RCN.  This latest lawsuit against Comcast and Tri-Wire is much bigger than a weekly paycheck. The duo is accused of violating the federal Fair Labor Standards Act and Massachusetts’ independent contractor and overtime laws.  Should Larry win it could mean a lifetime of paychecks! 

With the economy still upside down employers must tread lightly when using independent contractors. Other unsuspecting employers accused of similar misdeeds by copycat contractors include cable giants Cox Communications and Charter along with a multitude of subcontracting entities.

Beginning in November 2009 the IRS will launch its latest National Research Program (NRP). This NRP will be focused on conducting employment tax audits.

Of the 6,000 employers unknowingly entered into the IRS lottery 2,000 of them will be declared winners in 2009.  The grand prize?  Fines, penalties and plenty of bad publicity. These unlucky employers up until the moment they are officially notified have no idea they have been entered into this audit sweepstakes.  They were randomly selected by the IRS and with any luck will come out of the audit only slightly bruised. 

Basis for these audits?  The U.S. Treasury Department released a study on the U.S. “tax gap”; the difference between taxes owed and taxes not paid by tax cheats. Who are they? They are employers who underreport, underpay or simply never file. The Treasury estimates a tax gap of $345 billion and the IRS views the gap as justification for the audits.

What is your plan of action should your number be declared a winner?

FedEx plans to challenge the IRS finding from the audit however final resolution any time soon highly unlikely.

“We believe that we have strong defenses to the proposed assessment and will vigorously defend our position, as we continue to believe that all of FedEx Ground’s independent contractors, including those providing the FedEx Home Delivery service, are independent contractors,” FedEx said in the filing.

The IRS is also reviewing Fed-Ex for similar issues related to tax years 2004 - 2008.