CLARIFICATION OF EMPLOYEE & INDEPENDENT CONTRACTOR STATUS
Latest from Department of Labor & Commonwealth of Virginia
The last time we visited this topic was in the July 2019 issue of the Staffing Solutions Newsletter. Click here for a refresher of the DOL/IRS positions … and then be sure to read the updates since then by both the feds and Virginia.
U.S. Department of Labor Proposed Rule
In the closing days of September, the DOL announced a proposed rule to clarify the definition of employee under the Fair Labor Standards Act (FLSA) as it relates to independent contractors.
Secretary of Labor Eugene Scalia said, “The Department’s proposal aims to bring clarity and consistency to the determination of who’s an independent contractor under the Fair Labor Standards Act. Once finalized, it will make it easier to identify employees covered by the Act, while respecting the decision other workers make to pursue the freedom and entrepreneurialism associated with being an independent contractor.”
Cheryl Stanton Wage and Hour Division Administrator had this to say: “The rule we proposed today continues our work to simplify the compliance landscape for businesses and to improve conditions for workers. The Department believes that streamlining and clarifying the test to identify independent contractors will reduce worker misclassification, reduce litigation, increase efficiency, and increase job satisfaction and flexibility.”
As identified in the DOL news release, the proposed rule would:
- Adopts an “economic reality” test to determine a worker’s status as an FLSA employee or an independent contractor. The test considers whether a worker is in business for himself or herself (independent contractor) or is economically dependent on a putative employer for work (employee);
- Identifies and explains two “core factors,” specifically the nature and degree of the worker’s control over the work, and the worker’s opportunity for profit or loss based on initiative and/or investment. These factors help determine if a worker is economically dependent on someone else’s business or is in business for himself or herself;
- Identifies three other factors that may serve as additional guideposts in the analysis: the amount of skill required for the work; the degree of permanence of the working relationship between the worker and the potential employer; and whether the work is part of an integrated unit of production; and
- Advises that the actual practice is more relevant than what may be contractually or theoretically possible in determining whether a worker is an employee or an independent contractor.
The proposed notice is available for review and public comment for 30 days until October 26, 2020. The DOL urges comments by interested parties be submitted via the Federal Register link.
New Virginia Employment Laws … Independent Contractors, an “Endangered Species”?
Employers, it’s halftime … between new Virginia employment misclassification laws … two that became effective on July 1, 2020, the other to kick in on January 1, 2021.
What follows is our summary and understanding of the new laws, and not to be construed as legal advice.
As of July 1, 2020, Virginia law puts the burden of proof on employers to justify that a worker who performs services for pay qualifies as an “independent contractor” as determined under IRS guidelines. In the absence of that proof, the worker is deemed to be an “employee”.
Additionally, the new law allows Virginia workers to sue an employer that misclassifies them as an independent contractor. When the worker’s suit is successful, the worker will be converted from being classified as an independent contractor to that of an employee. In that event, the law provides that “the court may award individual damages in the amount of any wages, salary, employment benefits, including expenses incurred by the employee that would otherwise have been covered by insurance, or other compensation lost to the individual, a reasonable attorney fee, and the cost incurred by the individual in bringing the action.”
There are critical reasons for employers and workers to understand the significant financial implications of categorizing a worker as an independent contractor vs. an employee. Employers may be motivated to classify a worker as an independent contractor to avoid expenses that are otherwise incurred for employees, i.e.:
- The employer’s share of Social Security (FICA) and Medicare taxes
- Overtime and minimum wage payments
- Employee health insurance premiums
- Employee retirement benefits, vacation, holiday, and sick pay
- Other employee fringe benefits, such as stock options
- Federal and state unemployment compensation taxes (FUTA and SUTA)
- Workers’ compensation insurance premiums.
In contrast, Independent contractors pay their own taxes and receive no employee benefits.
A 2012 Joint Legislative Audit and Review Commission (JLARC) report, pegs the loss in state revenue from misclassification at about $28 million annually.
Beginning January 1, 2021, the Commonwealth will presume that a worker is an employee when investigating employers for back taxes based on independent contractor misclassification.
Under the new Virginia law, employers found to improperly classify an individual as an independent contractor and not incurring the expenses of employees as outlined above, may be subject to civil penalties of:
- Up to $1,000 per misclassified individual for a first offense
- Up to $2,500 per misclassified individual for a second offense, and
- Up to $5,000 per misclassified individual for a third or subsequent offense.
The term “independent contractor” has traditionally been applied virtually exclusively to workers in the trades. Plumbers, carpenters, electricians and lawn-care workers are professions that come to mind.
Two significant events altered the independent contractor employment profile … the Great Recession and more recently the COVID-19 pandemic. Workers who conventionally would be fully employed white collar, managerial and executive talent opted for the freelance route as independent contractors … either by choice or circumstances.
That’s when the classification lines became increasingly blurred. Employers embraced the opportunity to bring on a contingent workforce without incurring the additional financial burdens of full-time employees. The net effect has been a jump of two to three times in the makeup of the U.S. workforce … up from less than 7% just 15 years ago to about 20% identified as independent contractors in 2020.
Note: If an individual performs work and is deemed an employee as determined under IRS guidelines, employers and workers may not agree to a classification of independent contractor to avoid the provisions of the new law.
The new Virginia employment misclassification laws are quite specific as to independent contractor vs. employee status. Employers must be mindful of the details of the new laws and the penalties for non-compliance. Certainly, seek professional guidance from your labor law advisor.