Monday, October 3, 2011

Misclassification of Employees as Independent Contractors - What's That Mean?

Misclassification of Employees as Independent Contractors - Philadelphia Lawyer Helps Workers Unlawfully Paid 1099 Wages as Independent Contractors Instead of W-2 Wages as Employees

This is a problem that has plagued America's workforce (and the government) for many years. Companies have repeatedly, and purposefully, engaged in the practice of misclassifying people who should be deemed employees as “independent contractors.”

Fuzzy About Your Identity?
It has become such an epidemic that the IRS recently decided that employers who voluntarily come forward to acknowledge that they have wrongly classified workers as independent contractors will, in exchange for their “honesty”, be rewarded by not having to pay any interest or penalties for overdue payroll contributions, along with tax relief benefits.

Although estimates are difficult due to the nature of misclassification, it is been estimated on numerous occasions that misclassification costs state and federal government(s) billions of dollars per year in lost taxes/contributions/funding.

How Many Misclassified Workers Are There in the United States?

This excerpt from a recent report provides some idea:

"Ten to 30% of all employers misclassify their employees, according to a conservative estimate by the U.S. Department of Labor.  A total of approximately 1.8 million workers were found to have been misclassified in four states that have recently conducted studies – Illinois, Maine, Massachusetts, and New York. National figures on the total number of misclassified employees are not available."

So, there are a lot of misclassified workers out there!

How Much in Taxes Are Lost by the U.S. Government as a Result of Misclassification?  Can I Get a Tax Refund if I was Improperly Called an Independent Contractor?

That aforementioned article further states the following: 

"The IRS estimated that $68 billion of the annual $345 billion gross tax gap for 2001 was due to sole proprietors, business owners who alone own all of a company’s assets, under-reporting their net income by 57%.  
If even a fraction of that sole proprietor tax gap was the result of misclassification and/or unreported cash, the federal tax gap due to misclassification would be closer to $10 billion dollars a year."

That's a lotta dough!

Unfortunately, private citizens who prove that they have been misclassified cannot sue for the tax losses they suffered as a result.  Instead, only the IRS can do that.  However, the IRS is seldom interested in pursuing such compensation on behalf of only a single worker (they are looking for the big fish - cases involving large scale misclassification by bigger companies.

NOTE:  If you are deemed an independent contractor, you are deemed to be self-employed.  Many citizens do not understand that subtle, but critical, nuance.

If You Are Part of the Team of Employees,
You Are Likely Not an Independent Contractor
How Can I Tell if I am an Employee Versus an Independent Contractor?

There are a number of factors, more than 15 in fact, that governmental agencies and/or the courts examine when making this determination. 

However, let me give you the simple factors to consider. I can virtually assure you that you are an employee if you answer Yes to most or all of the following questions:

What is the Legal Test for Figuring Out if Someone is an Independent Contractor Instead of an Employee?  Philadelphia Area Lawyer Helps Workers Incorrectly Identified as Independent Contractors

Here are some of the things the IRS and the Courts look for in the course of determining whether someone designated as an Independent Contractor is actually a "true employee."  The more "yes" answers, the more likely it is you are an employee.

*  Do you go to your employer's office on a regular basis?

*  Do you have a desk or designated work station at your employer's office?

*  Do you have a company e-mail address?

*  Do you have a phone extension at the office?

*  Do you have a business card provided to you by the company?

*  Do you ever attend meetings outside of the office with company employees?

*  Are you required to attend regular meetings scheduled by the company in the office?

*  Do you use a computer and other work materials provided by the company on a regular basis?

*  Has the company ever warned or disciplined you?

*  Is your work product reviewed/approved/edited by a supervisor employed by the company?

*  Are you required to follow the rules found within the company's handbook?

*  Do you get reimbursed for expenses or travel incurred while performing your work?

*  Do you fill out a time card? or,

*  Are you required to submit your hours worked on a company form?

Do you regularly utilize company forms and/or software when completing your job duties?

*  Are your hours of work by and large scheduled by the company?

I could go on, but I expect that you get the general idea.

I Signed a Contract Saying I am an Independent Contractor.  Does That Mean I Cannot Win my Case?  Lawyer in Pennsylvania Who Helps Employees with Independent Contractor Cases

Good News, Workers
Not Worth the Paper its Written On
NO.  The answer to this question is an unequivocal NO.

Almost everyone who is misclassified as an independent contractor is required to sign a contract agreeing that they are an independent contractor. These contracts are the first order of business for companies looking to trick workers into thinking they are independent contractors when is fact they are truly employees.

If these contracts were effective to establish that workers were contractors, then there would be no need for a "legal test" because, as I noted above, almost all independent contractors have signed such agreements.

The key is what as known as "the economic realities test."  What does the employee actually do every day, and where; to what extent does the company exercise control over the employee's day to day activities?

Broadly stated, the "legal test" is whether the company "controls the manner and means of your day-to-day activities."  If it does engage in such control, you are an employee no matter what paper you signed.

SHOCKER! It's All About the Benjamins
for Corporate America
Why do Companies Intentionally Misclassify Workers as Independent Contractor?  Misclassification Lawyer Near Philadelphia

For employers, there are many very significant benefits to having independent contractors versus employees.

First, the most obvious benefit, is that independent contractors are paid on a 1099 basis, as opposed to a W-2 basis. This means that companies do not have to make FICA Contributions (FICA stands for the Federal Insurance Contributions Act) on wages paid to independent contractors.

In addition, workers classified as independent contractors are not entitled to workers' compensation or unemployment benefits. This means that companies can save significantly due to the fact that they are not obligated to make workers' compensation or unemployment insurance contributions.

Another cost-saving benefit of utilizing independent contractors is that they do not receive the same perks as regular employees, such as vacation and sick pay, holiday pay, life insurance, short- and long-term disability insurance, stock plan participation, sharing in 401k programs, etc.

Further, in many companies severance is offered to terminated employees.  Such severance is not, however, available to independent contractors.

But that's not all.

You Cannot Sue for Overtime, Illegal Discrimination or Wrongful Termination if You Are Truly an Independent Contractor, Nor Can You Get Leave Under the Family and Medical Leave Act or Get Short-Term Disability Benefits.  Philadelphia Discrimination, Overtime, Family Leave and Disability Attorney

Critically, independent contractors are not entitled to protection under overtime laws such as the Fair Labor Standards Act, and companies cannot be sued by independent contractors under employment laws prohibiting discrimination, sexual harassment, retaliation, wrongful termination, etc.

In addition, contractors are not entitled to leave under FMLA and, as noted above, are ineligible for disability benefits.

Questions about how FMLA and disability benefits work in tandem?  You may want to look at John's video on that subject:

If You Are an Independent Contractor, Your Non-Compete Agreement is Enforceable. Philadelphia Non-Competition Contract Lawyer

Finally, at least with regard to the major benefits of having independent contractors versus employees, independent contractors can be bound by all necessary employer policies, such as work rules, non-compete agreements, etc.

Here is one of John's videos concerning dos and donts where non-compete agreements are concerned:

In short, having independent contractors versus employees is, from many perspectives, a win-win situation for Corporate America.  Companies save significantly on payroll expenses, employee benefits, workers' compensation and unemployment contributions, while at the same time eliminating obligations to comply with state and federal employment laws. Meanwhile, companies are able to require their contractors to adhere to company policies, and can limit their right to compete against the company subsequent to the end of their relationship.

What is the Downside to Having a Significant Number of Independent Contractors Working for a Company?

No One Can Other Than Mom or Wife Can Tell Him to Take
 His Feet Off of the Table!
As a practical matter, there is a  downside to employing TRUE independent contractors. That is so because a TRUE independent contractor typically works at a location other than the office of the employer,  is not subject to control by the employer, and is free to accept or decline any work assignments.

Thus, employing a large number of independent contractors creates, at least in theory, a significant risk for employers that required assignments will not be completed in a suitable or timely fashion.

How do Companies Get Around the Risks of Utilizing Large Numbers of Independent Contractors While at the Same Time Benefiting From Same?

Hence, while Corporate America loves the financial benefits of employing independent contractors, it is quite wary of actually treating such persons as independent contractors.  So, the work around is: call them independent contractors, but treat them like employees.  This is called "misclassification."

Doesn't Make it So!
How do companies do this while minimizing their risk of being caught? 

The most prevalent strategy is to have the individual sign a document called an "Independent Contractor Agreement."  The ordinary person believes that, if they sign such an agreement, they lose the right to argue that they are anything other than an independent contractor.

Not so.  Such an agreement in fact has little impact on the determination of whether someone is truly an independent contractor, and in no way is binding on an individual.  Rather, the "legal test" employed in determining whether a person is an employee versus an independent contractor is based upon an examination of the parties' actual relationship, not what a piece of paper says.

You can call a donkey a racehorse, but its still a donkey.

Think about it - if a mere written document would end any analysis of the issue, then no companies would ever be found liable on a misclassification theory.  Yet, such determinations are made all of the time.

How Much in FICA Contributions Does a Misclassified Worker Lose?  Attorney Discusses Tax Issues Relating to Independent Contractor Misclassification in Pennsylvania

NOTE:  I am NOT a tax attorney.  If you need tax advice, you should seek guidance from an attorney who has an LLM degree, or from a property credentialed accountant or advisor.

The numbers are pretty straightforward.

Social Security ContributionsIn 2013, employers must make a contribution equal to 6.2% of an employee's earnings into the Social Security Fund.  The employee then makes a matching 6.2% contribution to the Fund, for a total contribution of 12.4%.  If you are self-employed (i.e. independent contractor) you must make the entire 12.4% SS Contribution on your own. 

Medicare ContributionsIn 2013, employers must make a contribution equal to 1.45% of an employee's earnings into the Social Security Fund.  The employee then makes a matching 1.45% contribution to Medicare, for a total contribution of 2.9%.   If you are self-employed (i.e. independent contractor) you must make the entire 2.9% Medicare Contribution on your own.

So, person who has earned an average of $50,000 per year working as an independent contractor for the past 5 years will have paid an additional $3,875 per year in FICA Contributions ($3,100 in SS, $725 in Medicare) than he/she would have had he/she been an employee.  That is a total loss to the worker of $19,375 over that 5-year period.  Not chump change.

Can I Sue to Recover Lost FICA Contributions if I Was Misclassified?

Unfortunately, a private individual cannot recover these losses in a lawsuit (the Internal Revenue Code does not allow you to do so).  Rather, only governmental agencies can seek recoupment of these monies.  Often, though, if they do not grant amnesty to a self-reporter, they simply seek some penalties and a "go forward" agreement for future compliance.  I do not hear many misclassified workers calling to tell me that they have received reimbursement for these losses via a check from IRS. 

Can I Sue to Recover Lost Benefits Such as Vacation and Sick Pay, Life Insurance, Short- and Long-Term Disability Insurance, Stock Plan Participation and 401k Plan Participation Benefits if I Was Misclassified?  Employee Benefits Lawyer for ERISA and Other Benefits Claims Serving Employees in Chester County, Delaware County, Philadelphia County, Bucks County and Montgomery County


This is Where You Can Go for Back Benefits
If you have been misclassified, you may sue to recover these benefits in court.

Where a person has over a period of years been deprived of such benefits, the claim may be substantial enough to warrant pursuit by an attorney. 

NOTE:  There is a statute of limitations on these claims, so do not delay too long before seeking counsel.

NOTE:  Some of these claims, such as those relating to long-term disability pay and retirement benefits, may be governed by a statute known as ERISA.  See below discussion of ERISA for more about that.

While such claims on an individual basis may be small, if you are part of a group of workers who have been misclassified, the case could be substantial.

You May be Entitled
to Severance
Severance Pay for Misclassified Pennsylvania Workers

Severance is another big misclassification issue. 

Severance is typically available via company policy or in accord with a Defined Benefit Plan approved by the IRS.  Many large companies have DBPs. 

However, only employees may reap the benefits of DBPs.  So, the terminated worker who was misclassified loses out not only on unemployment compensation, but severance as well.  But, if you have been misclassified, you may sue in court for severance as well.

Class-Actions by Misclassified Workers in Pennsylvania

There have been a number of very prevalent class-action lawsuits filed by large groups of misclassified employees against companies that have Defined Benefit Plans.  These lawsuits are often (but not always) filed under a statute called ERISA. Microsoft got hit on such a claim about 15 years ago

If your company has a DBP, you may eligible under ERISA to sue for benefits provided under such plan, which typically provide for long-term disability, severance pay and retirement benefits.

What is ERISA?  Lawyer Who Helps Employees With ERISA Claims Located in Chester County, Near Philadelphia, Pennsylvania

ERISA is a federal statute that governs company retirement plans, commonly referred to as Defined Benefit Plans.  Many DBPs provide for benefits such as long-term disability, severance and retirement.  Click Here for an overview of ERISA. 

Can I Sue to Recover OVERTIME if I Was Misclassified as an Independent Contractor?  Overtime Claims Lawyer Who Files Federal Overtime Lawsuits for Pennsylvania Workers

Overtime Claims by Misclassified Workers Common
and Often Lucrative!

Again, this is accomplished via the filing of a lawsuit, often under the federal law known as the Fair Labor Standards Act ("FLSA"). Such suits also frequently include claims for lost benefits such as vacation pay, severance, etc., as described above.

Click Here for an overview of federal overtime laws in the United States to analyze whether you are a non-exempt employee.

FLSA provides substantial penalties for failure to pay overtime, including double damages, and payment of your attorney fees.

It is not uncommon to see a group of independent contractors employed by one company come  together to file a lawsuit in federal court seeking payment of overtime under FLSA and other benefits under ERISA on the grounds that they were in fact employees under the law who were deprived of their rights to compensation and benefits.
Title VII Protects
 Misclassified Workers

Can I Recover Sue for Discrimination or Sexual Harassment if I am Misclassified as an Independent Contractor?

Yes, for the same reasons and utilizing the same mechanisms as described in the above sections relating to benefits and overtime.  You need simply prove you were misclassified as an independent contractor when in fact, under the law, you were an employee.  This then clears the path for your lawsuit under Title VII.

Can I Get Unemployment Benefits if I am Misclassified as an Independent Contractor?  Need Attorney to Help if You Were Denied Unemployment Benefits in Pennsylvania Because You Were Deemed to be Self-Employed

Yes, you can. You have to take this issue up by filing for unemployment benefits once your “independent contractor” arrangement ends. This is a common dispute in many states.  Again, you  need to first prove you were misclassified as an independent contractor when in fact, under the law, you were an employee.

When you apply, the Unemployment Department will not have any earnings for you, so it will deny your application on that basis. Appeal that determination, and you will (in Pennsylvania) get a Referee Hearing. Win at that Hearing by proving that you were in reality an employee subject to the direction and control of the employer, and you will win benefits unless, of course, you quit without good reason or were fired for willful misconduct.

Available to All "True" Employees
Am I Entitled to FMLA Leave if I am Misclassified as an Independent Contractor?  Family Leave Lawyer in Philadelphia Area

Yes, although you will likely need to obtain a determination as to your status from the U.S. Department of Labor first.  Failing that, you will have to pursue a lawsuit in federal court.

Can I Get Workers' Compensation Benefits if I am Misclassified as an Independent Contractor?

Yes, you can. If you have suffered an injury while working under an independent contractor arrangement, you can seek a determination from a workers' compensation referee or judge that you were in fact an employee under the law despite your misclassification as an independent contractor, and are therefore eligible for workers' compensation benefits. This is also a common dispute in many states.

Do you want IRS to investigate your workplace and determine your status?  Click Here for the form you should complete.  Before you do so, however, you may first want to speak with an attorney concerning the pros and cons of utilizing this process.

Pennsylvania Family Leave and Disability Attorney

John A. Gallagher, Esquire
Helping Individuals Since 1991
Philadelphia Are Employment Attorney Representing Employees

John A. Gallagher is an employment lawyer who represents employees in Pennsylvania. 

John typically represents employees who need an employment lawyer in Philadelphia County, Chester County, Delaware County, Bucks County, Berks County, Lancaster County and Montgomery County.

Pennsylvania Employment Attorney Provides Free Telephone Consultations

If you are looking for an employment lawyer, and live in Malvern, Wayne, King of Prussia, Downingtown, Glenside, Doylestown, Radnor, Newtown Square, Exton, Philadelphia, West Chester, Skippack, Langhorne, Haverford, Nether Providence, Broomall, Drexel Hill, Reading or any of their surrounding towns, feel free to send me an e-mail or give me a call.  I am always glad to spend some time with people via a free telephone consultation.

Need an Employment Labor Lawyer Near Philadelphia?

Click Here if you have questions about any aspect of employment law, from wrongful termination, to wage and overtime claims, to discrimination and retaliation laws, to Family and Medical Leave

Click Here if you have questions about any aspect of Pennsylvania Unemployment Law, from willful misconduct, to voluntary quit, to Referee Hearings, to severance issues

Click Here to e-mail John directly.

Thanks for checking in with us.


Unknown said...

I don't know what my former employer did - I only know what they DIDN'T do - which was report any earnings for me. According to UC their records indicate that no wages were reported by any employer(s) under the social security account # (it is correct SS#) The base year they are referring to is Oct 2011 to Sept 2012. I began working for them in Sept 2011, and was fired Jan 8 2013. I am sure the wages reported under my SS# were from my previous job as I didn't quit prior to finding a new job. I don't know how to determine what is going on, if I have any chance to recover taxes withheld from my pay, yet never paid on my behalf to state, medicare, fed, ss agencies as well as overtime I was denied or only paid my regular pay rate for, also for underpaying on a few occasions, found a few time sheets showing more hours then I was actually paid for. If these payments were never made how the IRS didn't notice - was it because on the books I was misclassified, and then my paystubs were just to make me think I was having taxes deducted cause I wasn't hired under any independant contractor. I had to print out a 1040 myself my first week there, my W2 was very late I didn't get it until March, I was almost never paid on the day indicated as payday. I had several payroll checks and payroll stubs with a different company name - and I recall seeing atleast one other. On top of all of that, I was fired a day after requesting overtime hours from previous pay period to be included in my next paycheck. If I was classified as an independent contractor, would unemployment have no wages for me? Or is it more likely its failure to pay payroll taxes quarterly? I think if I am classified wrong in the books - it will still boil down to fraud and not paying IRS and state taxes. Luckily I have all paycheck stubs with break down of withholdings - but will it give any cause for me to file a law suit and recover anything? Pls feel free to email me I could use some guidance

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