Let’s say you started your business and have a great location. Well, now comes the fun part. You need customers and clients to bring in the money, but you probably need a little help as well. While, many industries lend themselves to being solopreneur endeavors (like the law) you will still eventually want to get help.
Today’s post will focus on independent contractors (ICs) and employee classification and how the factor of control plays a role in this classification.
Why Should I Care?
There are a lot of things to consider when getting help for your business. One of the biggest things is weighing the benefits and costs of hiring an employee or using and IC.
As cash flow is uneven in the beginning anything to lower costs is helpful, so many start-ups like to outsource some operations and have an independent contractor work on them instead of hiring an employee. However, many times the business owner has overlooked some things and actually created an employee. This has huge implications. Namely, the IRS is going to redefine your ICs as employees, and slap you with back taxes and fines. Those costs could include years of unpaid federal, state and local income tax withholdings, as well as Social Security, Medicare, workers’ compensation, unemployment insurance, and even overtime compensation costs. Basically, everything associated to hiring an actual employee.
The misclassified ICs can also bring an action to claim employee benefits that were denied to them due to their misclassification. In the 1990s one of the biggest cases of this situation was between Microsoft and its long-term temp workers. They sued Microsoft for the stock purchase plan denied to them due to their misclassified status. Microsoft ended settling this suit for $97 million, but that was in addition to the payments to the IRS.
This case is an extreme example, but it highlights that the burden is on the business owner to properly classify all workers.
The Biggest Factor: Control
One of the strongest factors in determining if a worker is an IC or employee is the factor of control. In the case of an employee, the employer can dictate the hours they work, what tools and equipment they use, their job title and status, and a variety of other things. However, employees can be incredibly expensive due to all the compliance issues associated with them. On the other side, you lose control of an independent contractor, but do not have to worry about the associated costs of an employee. Indeed, from a purely business cost-benefit analysis side you can view the situation as control versus cost.
The more control a business owner exerts over a worker it is likely they are an employee (EE) bringing with them extra costs. However, having an IC means the loss of control over certain business functions.
However, recognize that control only one of many factors that the various agencies and courts will analyze your relationship with your workers. It is possible to have a worker be classified as IC in one situation and as an employee in another. What is a constant element though in many of these tests is the issue of control. The more control you exert over the manner in the way the work is done, the more likely the
Factors are like Strings
The variety of tests and the factors they use are a bit daunting, and too long to cover in one Draw the Law posts (indeed, I am trying something different today with a poll to see if you want more on ICs or move on!).
However, let me use a popular analogy about how to view your worker relationship in this context. Think of the worker as a puppet with strings, and each string represents a factor. These other factors include things like do use of company equipment to accomplish the job, does the job have set hours, is pay based on those hours, how integral is the job/task assigned to the business, etc . . .
You can think of your worker as a marionette puppet with regard to the factors that the IRS and other government agencies use to test for employee status. The goal for getting an IC status is to have less control factors.
Basically, to avoid employee classification (or imagine a marionette) you want to have as few factors (strings) against you as possible. If you truly want to have the benefits of an IC than in a lot of cases it is going to have to be “no strings attached.”
Independent Contractor Agreements
One of the best ways to get a handle on this situation is to have an independent contractor agreement. This serves to define the relationship upfront and provides a possible piece of evidence that you intended the relationship to be an IC and not employee. However, it is best to have an attorney at least review your business operations and your IC agreement to help point out potential pitfalls with drafting language and the relationship to avoid being reclassified.
[author] [author_image timthumb=’on’]http://www.alohastartups.com/wp-content/uploads/2011/09/RyanKHew.png[/author_image] [author_info]I am a practicing attorney in Honolulu, HI helping small businesses with their transactional and compliance needs.
Contact Me Today: Web| 808.944.8400 @RKHewEsq Ryan K. Hew, Attorney At Law[/author_info] [/author]
*Disclaimer: This post discusses general legal issues, but does not constitute legal advice in any respect. No reader should act or refrain from acting based on information contained herein without seeking the advice of counsel in the relevant jurisdiction. Ryan K. Hew, Attorney At Law, LLLC expressly disclaims all liability in respect to any actions taken or not taken based on the contents of this post.