Independent Contractors vs. Employees - Part I

© John J. Tormey III, Esq. All Rights Reserved.

This article is not intended to, and does not constitute, legal advice with respect to your particular situation and fact pattern. Do secure counsel promptly, if you see any legal issue looming on the horizon which may affect your career or your rights. What applies in one context, may not apply to the next one. Make sure that you seek individualized legal advice as to any important matter pertaining to your career or your rights generally.

Anyone who hires workers or is thinking of doing so, should be aware of the following.

Before hiring anyone, it is critical that one carefully determines with one's accountant and attorney whether the new hire is to be an "employee"; or, alternatively, an "independent contractor". The terms have legal and financial import; they are mutually exclusive; and one should never use them interchangeably.

The distinction between the two types of workers is important because, among other things, it is usually more expensive and more administratively inconvenient to hire and pay "employees" as opposed to "independent contractors". On the other hand, few persons or companies that hire workers are truly willing to relinquish control over their hires, to a sufficient degree to allow those workers to accurately be characterized as "independent contractors". The word "independent" is used for a reason, and truly translates to "loss of hiring-party control". I'll explain below.

The Internal Revenue Service in "IRS Publication 937" listed the 20 "checklist" factors that it considers, when determining whether or not an individual worker is an "independent contractor" as opposed to an "employee". The hiring party should review the most updated version of the IRS criteria prior to any hires. The hiring party should be aware, however, that the IRS is not the only institution with whom to be concerned regarding the all-important "independent contractor vs. employee" determination.

For example, the Department of Labor ("DOL") in one's state may apply its own checklist of criteria. (Be aware that there is a federal [US] Department of Labor as well as a state Department of Labor, and a hiring party needs to comply with the requirements of both). In a perfect world, there should be consistency between the respective "checklists" of the IRS and the applicable DOL, as well as consistency between each agency's interpretation of those checklists. However, the world isn't perfect, and those interpretations could differ. Therefore, one should be aware as to how a local DOL characterizes the two different types of workers, too - if different than the IRS characterization. Additionally, from an enforcement perspective, the DOL could challenge a hiring business' characterization of its workers as "independent contractors", without the IRS joining in on the contest. The IRS and the DOL are separate agencies, although there is a suggestion that they will more thoroughly share electronic data with each other on this issue in the near future.

The "independent contractor" determination can be the proverbial unstable apple cart, easily tipped. An employer, as most know, should withhold taxes from an employee's pay, and make unemployment contributions with respect to those employees, among other things. Hiring companies in the entertainment field, for example, often wisely use a "payroll company" to administrate these types of obligations so as to not screw them up.

However, let's say that a hypothetical recording studio hires 20 workers; characterizes them all (in reasonably good faith) as "independent contractors"; but uses no payroll company, and pays no unemployment insurance or workers compensation contributions with respect to any of the hires; and does not withhold taxes from their pay. Then, one worker is terminated, and vindictively files with the local DOL for unemployment compensation, claiming to be a fired "employee". The recording studio could now find itself faced with a DOL that now characterizes not just the one claimant-worker - but all 20 workers - as "employees" as opposed to "independent contractors". The apple cart tips. The recording studio may be required to litigate administrative hearings, and may thereupon be assessed retroactive unemployment insurance contributions, interest, and penalties. Other actions may also follow, such as a workers compensation audit, and perhaps even findings by the IRS and local tax authorities with respect to claimed monies that "should have been withheld".

Could this nightmare have been avoided by the recording studio? The answer is "Maybe yes, maybe no". Please see Part II of this article for a further discussion.

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My law practice includes the field of entertainment. If you have questions about legal issues which affect your career, and require representation, please contact me:

John J. Tormey III, PLLC
217 East 86th Street, PMB 221
New York, NY 10028
(212) 410-4142 (phone)
(212) 410-2380 (fax)