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CONSEQUENCES
OF
EMPLOYEE MISCLASSIFICATION
Many associations are tempted to classify a
worker as an independent contractor so as to avoid payroll taxes,
health benefits, and workers’ compensation insurance. Doing so is now more risky due to the federal government’s implementation of its new initiative:
Questionable Employment Tax Practice (QETP).
Consequences of Misclassification. Under QETP, federal and state
auditors scrutinize independent contractor agreements. If the
auditors determine that a worker is improperly classified, the employer may be required to pay penalties, including the
following:
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Federal and state income tax for the
previous three years;
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Employee’s share of Federal Insurance Contributions Act (FICA) taxes and
the employer’s matching amount;
-
Federal
unemployment taxes of 6.2% of each employee’s
compensation up to $7,000.00, and state unemployment insurance equal to 3.4%
of compensation up to $7,000.00; and
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0.5% of the total amount of the debt per month for up to 50 months (6%
annually) with the possibility of additional penalties for substantial
understatement or fraud (applicable in cases where the employer failed to
file correct information returns, furnish correct payroll statements, and
comply with information reporting requirements).
How to Determine Employee Statute. In
classifying a worker’s status, the IRS generally focuses on the following three
factors:
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Behavioral Control. The higher degree
of control an employer exercises over a worker by regulating the following
factors, the more likely the worker will be classified as an employee
instead of an independent contractor: how to perform the work (e.g., the
amount of supervision or training); when and where to do the work; what
tools or equipment to use or buy; and whether or not to hire assistants.
-
Financial Control. The more control a
worker has over his/her business finances, the less likely he/she will be
classified as an employee.
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Relation of the Parties. Contracts
between the parties may help distinguish the type of business relationship,
i.e., whether the parties intended to enter into an employment relationship
or independent contractor relationship.
No one factor is conclusive, but, as a general
rule, a worker is an independent contractor when the association has the right
to control only the result of the work and not the means or methods of
performing the work. See
IRS
Publication 1779
Example. Painters are generally classified as independent
contractors because they are hired on a project basis; supply their
own painting supplies and equipment; and do not have set working hours where
they need to clock in and out. In other words, the painters control the process. However, not all painters
are independent contractors. Some (i) work solely for one association and do not
seek or advertise for additional work; (ii) the association controls the means by
which the painting is performed by instructing the painters where, when, and how
to paint; and (iii) the association supplies the painters with supplies. Such
painters are employees, not independent contractors.
Avoiding Misclassification. To avoid
misclassification, associations should limit the use of “full-time” independent
contractors, and instead hire workers on a specific project basis. Additionally,
associations should treat workers similarly in similar situations. In other
words, if the job duties of two employees are the same or similar, do not hire
one as an independent contractor and the other as an employee. Lastly, use agreements
that highlight the components of independent contractor
status so as to withstand the scrutiny of federal and state auditors.
Sincerely
yours,
Tina Wang, Esq.
Adams Kessler PLC
GARY KESSLER'S CONDO
COURT: The Case of the Common Area Give-Away. New Appellate Court
Case Upholding Directors’ Decision Making Authority! In April 2008, the
California Court of Appeals issued an important decision upholding a board’s
authority to make discretionary economic decisions which relate to their right
to maintain, control and manage the common areas. For a summary of Harvey v.
The Landing Homeowners Assn., see
Condo
Court. |
