Hiring Independent Contractors is a legitimate business model in all states, and true Independent Contractors should receive 1099s for compensation for their services. However, many employers give 1099 forms to people who are misclassified as Independent Contractors when they should have been paid as employees.
Sometimes the employer’s motive is honest – they believe that the worker is truly an Independent Contractor; but more commonly, they pay with a 1099 to keep the overhead cost down and not give the employee the true protection they need for their work.
The basic definition of the “Employee” and the “Independent Contractor” as given by the Employment Development Department (EDD) of California is as follows:
- Employee: An individual who performs services for you and is subject to your control regarding what will be done and how it will be done.
- Independent Contractor: An individual who performs services for you, but you control only the result of the work.
The employer must understand these definitions in order to remain in compliance and not be issued all the fines and penalties.
The IRS, Department of Labor, and many state agencies are taking aim at businesses using Independent Contractors due to the suffering tax revenues everywhere. Paying Independent Contractors with a 1099 eliminates wage withholding, employment taxes, unemployment taxes, worker’s compensation, and offers no pensions and fringe benefits to the worker. The employer may be benefitting now, but the ramifications can be outstanding.
If found guilty of misclassifying workers, the employer will be faced with costly audits by the IRS, EDD, and Department of Industrial Relations, additional taxes, penalties, and interest, plus revocation of state/local license.
The state of California passed a Labor Law in October 2011 designed to crack down on the misclassification of workers as Independent Contractors and dramatically increased the penalties on employers who have been found to have willfully done so. The SB 459 added the following fines:
- California’s Labor and Workforce Development Agency can fine you for “willfully misclassifying” an employee from $5,000 to $15,000 per violation.
- The penalty goes up to $25,000 per violation if you commit a “pattern and practice” of “willfully misclassifying” workers.
- There’s joint and several liability for consultants (but excluding practicing lawyers) who advise employers on such independent contractor engagements.
- It’s unlawful to charge misclassified independent contractors any fee or take deductions from the compensation paid to them. Companies cannot deduct fees for goods, materials, space rental, services, government licenses, repairs, etc. provided to contractors who are reclassified.
Paying a true employee with a 1099 and misclassifying them as Independent Contractor may lower the overhead costs now, but should the relationship be terminated, or competitors start to ask questions – both may contact the EDD or the IRS, and the truth will be revealed. The employer will be left having to pay an enormous amount of taxes, fines, and penalties.
The cost is not worth the risk. Be informed of the regulations and the law. Be in compliance at all times for your business.
DE 231, Information Sheet – Employment
DE 231EEE, Information Sheet – Exempt Employment
DE 38, Employment Determination Guide
DE 1870, Determination of Employment Work Status
Employment Status Course
Employee or Independent Contractor Tax Seminar
The Trans Bay Steel, Inc. of Napa and Los Angeles, California was fined $1 million for slavery and human trafficking. In the suit, the EEOC alleged that 48 Thai welders were exploited and discriminated against due to their national origin. The EEOC took the allegations one step farther, arguing that Trans Bay was actually guilty of slavery and human trafficking. Eventually, the judge agreed.
Sadly, a number of companies have been accused of discrimination recently—but few have been charged with slavery or human trafficking. When the EEOC receives a complaint of discrimination, they launch a full investigation. Only if the investigation turns up evidence of wrongdoing, does the EEOC file a suit. Not surprisingly, most companies choose to settle out of court, rather than fight the lawsuit.
Officials at Trans Bay probably wish that they had settled with the EEOC, but they fought the charges…and lost.
Trans Bay had obtained H2B visas for the employees through a third party agency. The EEOC charged that the employees were held against their will. Their passports were confiscated and their movements were restricted. The employees were forced to work without pay. In addition, some were confined to cramped apartments without electricity, water or gas.
At least 17 of the workers were told that if they attempted to leave, the police and immigration officials would arrest them. The EEOC contends that all the workers were forced to pay enormous fees to the recruiting company, which effectively kept them in involuntary servitude.
Eventually some of the workers escaped the slave-like conditions and were able to alert authorities.
The men were working to retrofit the Bay Bridge under a sub-contract won by Trans Bay, Inc. Trans Bay contracted with Kota Manpower Co. to bring skilled workers from Thailand. Eventually, 9 of the 48 workers were employed by Trans Bay. The remaining workers were forced to work without pay in Los Angles and Long Beach, in Thai restaurants owned by Kota Manpower. Some were also forced to work other menial jobs without pay.
“The issues of human trafficking and slavery are an enforcement priority for the Commission,” said Anna Y. Park, Regional Attorney in EEOC’s Los Angeles District Office, which has jurisdiction for the southern half of California. “The EEOC is committed to the protection of all workers, particularly those most vulnerable in our society. The workers in this case sought out the American dream, but instead faced a nightmare.”
After an extensive investigation, the EEOC won the suit against Trans Bay and was awarded up to $1 million. This award includes a monetary payment to each worker, with guaranteed employment on the Bay Bridge Project. The company also agreed to provide a housing stipend for workers.
In one of the most comprehensive awards in recent history, the company is required to pay the workers relocation expenses to Napa, California. They will also train and certify the workers as welders.
The company will also pay for tuition and books at a local college for the unskilled workers to train as welders. The company agreed to guarantee minimum pay and a base pay once the claimants complete their training period.
The judgment for the U.S. EEOC vs. Trans Bay Steel, Inc. includes continued monitoring by the EEOC, training of Trans Bay employees on anti-discrimination laws, changes to Trans Bay’s policies and procedures, and developing a company-wide complaint procedure.
EEOC Los Angeles District Director Olophius E. Perry said, “Through the cooperative efforts between the federal government and non-profit organizations, a just resolution was reached that is a win/win for the workers and for the employer.”
The EEOC worked closely with non-profit organizations such as the Thai Community Development Center, the Coalition to Abolish Slavery and Trafficking, and the Legal Aid Foundation of Los Angeles.
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www.HumanResourceBlog.com has a goal to build a community strictly for HR professionals all across the states to be able to post and receive answers from actual professionals in the same situation or have the knowledge to possibly guide you to answer. State laws vary from state to state. If your organization operates in multi-states, this is the place for you. www.HumanResourceBlog.com does not limit the answer to any particular state or topic. It does not have boundaries and/or limitations in the state the question is deriving from. If you are seeking an answer to your HR question, www.HumanResourceblog.com will be the solution!
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In California, the state labor law on new employee hire reporting has set up what is called the New Employee Registry. This is a simple list that the state uses to compare their information against the National Directory of New Hires, in order to catch parents who are running from their child support payment.
Here’s an interesting fact for why the labor law must be set up this way— about one in three parents who do not pay their child support payments do not live in the same state as their child. Hence, there is this need to cross compare all of the new hire information coming from all of the states, thanks to the federal change in the employee hiring labor law.
The labor law in California also makes it required, since the start of 2001, that employers and government agencies report information on the independent contractors that they hire too. That way, they are using an even finer tooth comb to track parents who aren’t making payments, via the New Employee Registry.
As with other states that follow the general guidelines set up by the federal labor law, the California new hire reporting regulations require that employers send in the information on their new hires within 20 days. But California makes it so it is 20 days after the actual start of work of the employee, meaning the first day that the employee actually starts work, compared with the day that the person was hired.
Under the Cali labor law, you can also choose which state to report all of your new hires in if you are a multistate employer. In that case, you can report all your new employees—no matter what state they are hired in—to just one state that you have an office in. That makes it easier on your human resource administrators to get all of the new hire forms together.
HR compliance is more important than ever, with recent news that the U.S. Department of Labor filed suit against a Houston employer for not keeping adequate records of employee time worked, including weekly time sheets. U.S. Secretary of Labor Elaine Chao wants to send a clear message to employers that violations of labor rights will not be tolerated.
“To protect workers, last year the department deployed additional investigators to the Gulf Coast region to better ensure that employers fully comply with wage and hour laws,” said US Secretary of Labor Elaine Chao. “This legal action is among our many efforts on behalf of these workers who are doing vital work for the Gulf Coast region’s recovery and who deserve and are entitled to receive all the wages they have earned.”
While busy employers may think of HR compliance as a minor matter, to the Department of Labor, violations are a serious offense. The recent suit filed by the U.S. Labor Department confirms Secretary Chao’s caution against employers who violate labor rights. The suit, to recover over $500,000 in back wages for employees working on the Mississippi Gulf Coast, alleges that the employer committed violations of the Fair Labor Standards Act.
The U.S. Department of Labor’s Wage and Hour Division (WHD) filed the suit against a Houston drywall firm for violating the labor rights of employees. Specifically, the employer misclassified employees as independent contractors, in order to avoid overtime payments mandated under the federal Fair Labor Standards Act (FSLA).
The drywall company performed on contracts for reconstruction along the Mississippi Gulf Coast. The WHD investigation of the Beau Rivage Hotel and Casino contract in Biloxi, Miss. and other worksites, found that the company owner regularly misclassified employees as independent contractors and failed to pay them the additional half time overtime premium for hours worked over 40 in a workweek. The company also failed to maintain accurate records of employees’ wages and hours of work.