With the current state of the economy, most businesses are doing whatever they can to cut back on the expenses associated with employees.  One way to reduce employee expenses is to hire independent contractors.  Unfortunately, this plan can backfire on employers when the people they engage are not truly independent contractors.

The advantages of hiring independent contractors are significant.  First, the employer’s share of payroll taxes can be avoided including Social Security taxes, Medicare taxes, and unemployment taxes.  There can be decreased administrative costs, expenses for benefit plans and overtime.  The employer can also avoid the payment of workers’ compensation premiums.  As a general rule, statistics tell us that payroll costs can be saved up to 30%. Compare this to the typical employee who is subject to federal and state wage payment laws, discrimination laws, unemployment compensation, workers’ compensation premiums and a host of other benefits.

Of note is the fact that an employer is generally responsible for all the negligent acts of an employee.  In addition, there are a host of government agencies which have a stake in an employee’s status.  Such agencies are the Department of Labor (wage and hour, unpaid leave and immigration), the IRS (federal income and payroll taxes), the Equal Employment Opportunity Commission (employment discrimination), the Social Security Administration and a host of other agencies wishing to delve into the employer-employee relationship.

The courts and governmental agencies look at several tests in determining whether an individual is an independent contractor or an employee.  As a very general rule, the primary factor is the degree of control exercised by the employer over the worker.  Over the years, a number of other factors have been determined by the courts to be significant in addition to the degree of the control.  Such factors include the skill required, the source of the instrumentalities and/or tools used by the worker, the location of the work, the duration of their relationship, the right of the hiring party to assign additional projects to the individual, the extent of the hiring parties’ discretion over when and how long to work, the method of payment, the hiring parties role in hiring assistants, whether the work performed is part of the employer’s regularly conducted business, and the providing of employee benefits.

The Internal Revenue Service has used a somewhat modified version of the foregoing. The three factors it considers may be broken down as behavior control, financial control and the relationship of the parties.

The behavior control test considers whether the business directly controls how the work is performed including the instructions provided, the extent of the instructions and any evaluation system.  It also considers the training provided by the employee to the prospective employee.  The financial control test is used to determine whether a business directs or controls the financial or economic aspects of the worker’s job.  Such factors considered are the extent of the investment, whether there are unreimbursed expenses, and the opportunity for profit or loss, and the method of payment.  The final factor is the type of relationship maintained between the parties.  It considers how the parties perceive their working relationship and will consider such things as the presence of a written agreement between the parties, the providing of benefits, length of their relationship, and were the services provided by the workers key activities of the business.

At the end of the day, a helpful analogy is an individual who decides to build a custom home.  Typically, that individual will have a separate contract with a builder who would be hired to build the house.  That builder hires his own workers, provides the expertise in building the home, and will be paid a lump sum.  Such individuals are clearly independent contractors.  Most importantly, while the homeowner may have some general oversight over how the work is to be done, for the most part, the construction company determines how the work is to be performed.  At the end of the day, the home will be done, a lump sum payment will be provided to the builder and, more likely than not, that will end the relationship between the homeowner and the builder.  Compare and contrast that to a situation where an employer hires what it deems to be an independent contractor, but that independent contractor is going to work for an indefinite period of time, is paid on a bi-weekly basis, is under the exclusive control by the company, and has virtually no control over the way the work is done.  In those situations, the individual is more than likely an employee.

Finally, and of particular importance, is the fact that the presence of an agreement identifying someone as an independent contractor is not binding on the courts or a governmental agency. Both can easily sidestep such an agreement if the degree of control over the prospective worker is extensive.

This blog should be used for informational purposes only. It does not create an attorney-client relationship with any reader and should not be construed as legal advice. If you need legal advice regarding Are Your Workers Really Independent Contractors?, or any other personal injury, please feel free to contact Employment Law Attorney Brad Gardner at  480.461.5323,  log on to udallshumway.com,  or contact an attorney in your area. Udall Shumway PLC is located in Mesa, Arizona and is a full service law firm. We assist Individuals, families, businesses, schools and municipalities in Mesa and the Phoenix/East Valley.