Are You Using Contract Labor?

Originally published: 09.01.10 by Mike Coyne

Congress considering changes to address ‘worker misclassification.’

A little over a year ago, we wrote about the challenges facing businesses that use independent contractors rather than employees to provide services to their customers. As you are probably aware, some businesses do this simply to avoid payroll taxes and workers compensation premiums. Other businesses note that the use of independent contractors is the longstanding custom in their industries. Regardless of the rationale, the end of the widespread use of independent contractors has never been closer.

The attack on the use of independent contractors is coming from both the legislative and executive branches of the federal government. In Congress, there are presently two competing bills addressing what is now being called the “worker misclassification” problem. The Employee Misclassification Prevention Act (S. 3254 and H.R. 5107) would impose recordkeeping requirements on companies that use independent contractors, and would require those companies to notify workers of their classification and of their right to challenge that classification. The Taxpayer Responsibility, Accountability, and Consistency Act of 2009 (S. 2882) would dramatically limit the so-called “Section 530” safe harbor provision that has protected the use of independent contractors. Under this legislation, workers would have the right to petition

the Internal Revenue Service for a determination of their classification as independent contractors or employees. Additionally, the legislation would impose severe penalties on businesses that misclassify workers:

• A minimum of $250 (up from the current $50) per incorrect tax return, up to $3,000,000 (currently $250,000) per year. Lower penalties would be imposed if the returns are corrected within a specified period of time, although the amounts are significantly greater than those currently imposed on employers for misclassification. 

• Smaller employers (those with gross receipts not exceeding $5,000,000) would be subject to fines of up to $1,000,000 per year, up from the current $100,000 limitation.

• In the event of intentional disregard for the filing requirement, employers would be subject to a $500 fine per tax return, up from the current $100 amount. The $3,000,000 per year penalty ceiling would not apply in this instance. 

In addition to this legislation, the Department of Labor is launching new enforcement activities and proposed regulations addressing worker misclassification. Washington, D.C. labor attorney Ilse Schuman reports that the Department’s Wage and Hour Division is contemplating adopting a regulation that would require an employer to disclose to a worker its analysis as to why the worker is an independent contractor. It would also have to keep a record of this analysis for review should a Wage and Hour investigator request it.

Objectively, it is relatively difficult to classify a worker as an independent contractor under current Internal Revenue Service interpretations and under case law. Businesses that do not use independent contractors have a legitimate concern that competitors that do rely heavily on independent contractors gain an economic advantage as a result of lower labor costs. If you have concerns regarding this issue, whether in favor or opposed to the proposed legislation, this would be a good time to let your congressmen know.

Michael P. Coyne is a founding partner of the law firm, Waldheger Coyne, located in Cleveland, Ohio. For more information on the firm, visit: www.healthlaw.com 

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Articles by Mike Coyne