Employee or Contractor? The Legal Implications of Making the Wrong Choice

By Mickey Matran / October 7, 2014 / Uncategorized No Comments

Classifying employees properly can be a challenge, but there’s a lot at stake if you get it wrong. Improperly classifying employees can put your business at risk of having to pay back taxes, fines and other penalties. In addition, counting your employees incorrectly can put you in violation of the Patient Protection and Affordable Care Act (also known as the ACA or Obamacare), which relies on proper employee counts to determine which businesses are required to offer health insurance to employees.

To ensure your business stays compliant with all the applicable laws and regulations, you must carefully consider whether the people working for you are employees or contractors.

Determining Status Isn’t Always Clear Cut

The IRS website offers guidelines for determining a worker’s status, but they aren’t as simple as a checklist and may not lead a business owner or HR amateur to a clear cut answer.

Classifying people as employees or independent contractors boils down to control, says Bob Young a lawyer at Bowditch & Dewey. “The more control a company retains over how, when and where the work is performed, the more likely the individual will be classified as an employee.” Requiring certain work hours, closely supervising the work and requiring regular attendance in the office would be examples of exercising that control.

If you’re controlling the end result of the work to be performed rather than how the work is performed or if the person is working for other businesses as well, the individual is more likely to be a contractor, says Deena B. Rosendahl, an attorney who specializes in employment law with Kaufman, Semeraro & Leibman.

Exempt or Nonexempt?

You will also need to pay attention whether your employees are exempt or nonexempt for the purpose of overtime rules, Young says. Generally speaking, all employees are entitled to overtime if they work more than 40 hours a week. To exempt an employee from this requirement, a company must show two things, Young says:

That the employee is paid a minimum salary (in most cases, $455 per week under federal law) that generally is not subject to deductions based on how much the employee works in a week.

That the employee’s primary job duties fall within certain defined categories, such as executive, administrative and professional.

In addition, a non-exempt employee is eligible for overtime pay even if they’re paid by a salary, Rosendahl says, and all work time must be recorded.

What’s at Stake?

If the IRS gets involved in investigating a misclassification on either the state or federal level (or both), your business could face heavy penalties including having to pay back payroll taxes and fines. “For most small businesses, being hit with a $25,000 fine can be pretty substantial,” says Mason Cole, founding partner of Cole Sadkin. In addition, contracts such as noncompete agreements you may have had with people who were working for you could be deemed invalid, he says.

The same issues come up with the ACA, too, Cole says. Employers may try to misclassify workers to avoid the 50-employee “large business” trigger that dictates whether employees can use the marketplaces to buy health insurance, whether the business is liable for the shared responsibility payment, and certain reporting requirements.

“It really comes down to intent,” he says. If you as a business owner don’t know what you’re doing and are trying your best, that will likely become clear in any IRS investigation, although Cole warns it’s a “scary” process that involves going through your files, emails and correspondences with accountants and lawyers. If it becomes clear that you were trying to skirt the law, “you’re in a lot of trouble.”

If you have questions about whether your workers are employees or contractors, please contact us. Our team is experienced in employee classification and can help your company stay on the right side of the law.

HR Solutions is a human resources outsourcing firm based in Baton Rouge, Louisiana. We eliminate human resources headaches for businesses with 10 to 1,000 employees by handling their payroll, employee benefits, regulatory compliance and other staffing needs. Contact us to learn how we can streamline your company’s human resources function to save money and reduce risk.

 

---