The Shrinking Definition Of Independent Contractor
It is increasingly difficult to lawfully classify a worker as an independent contractor in Massachusetts. Massachusetts Attorney General Martha Coakley recently released an Advisory on the Massachusetts Independent Contractor/Misclassification Law (the “Advisory”). The Advisory emphasizes that a Massachusetts employer must establish that a worker satisfies each of the following three requirements in order to lawfully classify the worker as an independent contractor:
- The worker must be free from control and direction in connection with the performance of the service;
- The service the worker performs must be outside the usual course of business of the employer; and
- The worker must be customarily engaged in an independently established trade, occupation, profession or business of the same nature as that involved in the service performed.
According to the Advisory, “[t]he burden of proof is on the employer, and the inability of an employer to prove any one of the prongs is sufficient to conclude that the individual in question is an employee.” The Attorney General will not consider an employer’s good-faith belief that a worker should be an independent contractor, the status of the worker as a “sole proprietor or partnership,” or the employer’s history of not withholding taxes, paying unemployment insurance premiums, or providing workers’ compensation to the workers in question. Such considerations have been deemed “irrelevant.”
In enforcing the Independent Contractor Law, the Attorney General will consider the following factors to be “strong indications of misclassification” that warrant further investigation:
- The absence of business records concerning services provided by alleged independent contractors;
- The payment of alleged independent contractors “off the books,” “under the table,” or in cash;
- The absence of sufficient workers’ compensation coverage;
- The non-receipt by alleged independent contractors of 1099s or W-2s by any entity;
- The provision of equipment, tools and supplies to alleged independent contractors by the contracting entity, or a requirement that these workers purchase such materials directly from the contracting entity; and
- The non-payment of income taxes or employer contributions to the Division of Unemployment Assistance by alleged independent contractors.
The Attorney General intends to pursue enforcement against employers believed to use straw or sham entities as a means to evade compliance with the Independent Contractor Law. In these situations, the Attorney General will consider such factors as whether (a) the services of the alleged independent contractor are not actually available to entities beyond the contracting entity, even if they purport to be so; (b) the business of the contracting entity is no different than the services performed by the alleged independent contractor; and (c) the alleged independent contractor has been organized as a business at the request of, or as a requirement of, the contracting entity.
The Advisory states that the Attorney General may impose “substantial” civil and criminal penalties, and in certain circumstances, debar violators from public works contracts. Such liability extends to “both business entities and individuals, including corporate officers, and those with management authority over affected workers.”
The Attorney General’s release of the Advisory follows Governor Deval L. Patrick’s establishment of a task force to crack down on employers that misclassify workers as independent contractors. The Joint Enforcement Task Force on the Underground Economy and Employee Misclassification (the “Task Force”) is a multi-agency group composed of representatives from the Labor Department, the Attorney General’s Office, the Department of Industrial Accidents, the Division of Occupational Safety, the Department of Public Safety, the Division of Professional Licensure and the Division of Apprentice Training.
While ferreting out violations of the Independent Contractor Law, the Task Force will expose offending employers to liability for the many derivative violations that flow from this transgression. Such derivative violations include failure to pay required wages, carry workers’ compensation insurance, comply with safety rules and remit income and payroll taxes. In some cases, the remedy will include mandatory treble damages under the Commonwealth’s recently amended wage law.
The Task Force will identify violators by soliciting information from the public and encouraging workers to report suspected misclassifications. The Task Force will also identify industries and sectors where employee misclassification is believed to be most prevalent. Task Force members will focus their agencies’ investigative and enforcement resources there. Governor Patrick has already identified the construction industry as an area of interest.
The Attorney General’s Advisory and the Governor’s Task Force are consistent with efforts by the federal government to root out underground economies and misclassified workers. In this regard, the Wage and Hour Division of the U.S. Department of Labor has made the misclassification of workers as independent contractors one of its top five enforcement priorities. Low-wage industries, such as construction, janitorial, hotel/motel and day labor, are expected to be the focus of these federal efforts.
Massachusetts joins the ranks of a growing number of states that are focusing their enforcement efforts on this issue. In particular, Michigan, New Jersey, and New York have established similar task forces or advisory panels. Other states, such as Illinois, Kansas and Kentucky, have enacted laws to clarify the definition of “employee” and/or increase penalties for misclassification.
The recent surge in federal and state enforcement efforts is already leading to costly fines and lawsuits. The plight of FedEx Ground Package System, Inc. (“FedEx”) is illustrative. The issue arose at FedEx when the IRS audited its employment classifications. The IRS determined that drivers had been misclassified as independent contractors and ordered FedEx to pay $319 million in back taxes plus interest. But the matter did not end there. The IRS action led to some thirty-five lawsuits, mostly class actions, by FedEx drivers located throughout the country. They allege that FedEx’s misclassification resulted in the failure to pay required wages and overtime. Similar actions are likely to follow as federal and state enforcement actions mount.
Massachusetts employers that are unsure whether certain workers have been misclassified as independent contractors should consider taking the following steps:
- Determine whether the workers in question satisfy the three-part independent contractor test set forth above;
- For workers who do not satisfy this test, determine whether they should be treated as exempt or non-exempt employees for purposes of the wage and hour laws; and
- Ensure that all payroll, tax, unemployment insurance, workers’ compensation and other employer obligations are extended to those workers who must be treated as employees.
Understanding applicable independent contractor laws is a complex and critically important obligation. Multi-state employers are cautioned to consider all applicable state laws, which can vary significantly with respect to defining who can be classified as an independent contractor. The Firm is available to assist with compliance and, if necessary, litigation.