The Independent Contractor Conundrum: Correctly Classifying Your Workers to Avoid Getting Fined
Any employer who has ever worked with independent contractors knows that there are certainly perks to having workers off payroll. Sure, their rates are typically higher than the average employee, but what you save in the cost of benefits alone can far outweigh the additional fees an independent contractor may run.
Of course, classifying all your workers as independent contractors would be asking for trouble from both the Federal and State government, each equally invested in ensuring employers are using these designations appropriately. There are instances where it is an acceptable arrangement, for instance when a contractor is running his or her own business and providing services to multiple firms. But unless a worker meets the various criteria necessary to classify them as independent, you run the risk of being hit with major fines if you veer from a standard employee designation.
So how are you supposed to know when a worker qualifies for that independent contractor status vs. when they are owed the benefits of an employee? Well, in California alone there are several tests meant to help you make those designations – because one test just wouldn’t be simple enough.
The IRS has a 20-factor test that includes items like whether or not the worker has a personal investment in tools of the trade and whether they have flexibility in their work schedules (as independent contractors always do).
The EDD (Employee Development Department) test provides guidance based on California court decisions and includes questions like whether the work being performed is part of your regular business and whether or not you have employees performing similar work on payroll.
And finally, the California Borello Test is what the California court system actually uses to make their designations. This one mostly emphasizes whether or not a worker has the autonomy to control how the end result is reached.
If you want to avoid the back taxes, penalties and interest that can accumulate as a result of misclassification (and trust us – you do) then it is advisable to review each of these tests when considering the classification of your independent workers. There are also some basic guidelines you should keep in mind to stay out of trouble. For instance, if you are considering hiring a past employee as an independent contractor – know that the new designation will be hard to defend, particularly if they are performing similar tasks to what was expected of them when they were an employee. Perhaps that seems like common sense, but it is something a lot of employers come up against with past employees who want to continue working after retirement. You will want to carefully review each of the tests available should a similar situation present itself at your firm.
When hiring independent contractors, they should be workers who perform tasks that aren’t central to your business, ideally workers who have their own business already established and are given the autonomy necessary to complete the agreed upon tasks on their own terms. Always make sure contracts are in order and payment schedules are agreed upon prior to the start of work.
There can be a lot of benefits to hiring independent contractors for companies that have business needs not already being met by employees, but make sure you cover your organizations liability by not haphazardly applying the independent contractor designation purely to save a few bucks up front. Misclassifications will come back to bite you in the long run and aren’t worth the risk of taking the government on over the status of your workers.