Local businesses in California face misclassification audits, penalties.
Employers in California can be fined up to $25,000 per violation for a misclassifying an employee as an independent contractor. What Is an Independent Contractor? In general, an independent contractor is someone who is in business for himself or herself. Independent contractors usually perform work that requires a specialized skill or trade that is not part of a company’s regular business. They also typically perform work for multiple customers or clients; set their own fees; work from home or their own place of business; provide their own tools and equipment; and determine how and when the work is to be done. A customer or client may provide specifications or deadlines for the work, but the independent contractor decides how much time to spend and how best to do the job. For example, a web designer who works from home, performs services for multiple clients, sets his or her own hours, and gets paid on a project basis would probably be classified as an independent contractor. An employee, on the other hand, is someone whom a company has much more control over. An employee typically performs work that is a regular part of a company’s business. Employees also usually have regularly scheduled hours; work at the employer’s place of business; receive training and direction from the company; receive an hourly wage or salary; and are subject to discipline by the company. The company has control over how the employee performs the work, often providing training, guidelines, or other supervision over the work product. For example, a marketing assistant who works from 9:00 p.m. – 5:00 p.m. during the week, at the company’s offices, receives $15 per hour, and has a supervisor who reviews his or her work, would probably be classified as an employee. Payroll tax audits conducted by the EDD have disclosed misclassified workers in virtually every type and size of business. However, certain industries seem more prone to have a higher number of misclassified workers than others. Historically, industries at higher risk of having misclassified workers include businesses that use:
- Construction workers
- Seasonal workers
- Short-term or "casual" workers
- Outside salespersons
What Is the Test for Determining Who Is an Independent Contractor?
In California, there are multiple state agencies that have their own tests for determining whether someone is an independent contractor. Although each test differs slightly, most follow the same basic concept: The more control that the employer has over how the individual performs the work, the more likely he or she is an employee.
The exact test that is used depends on which agency is interested in the classification. For example, the Employment Development Department (EDD) applies its own test if it believes your employer should have withheld payroll taxes from your wages or if it is deciding whether you’re eligible for unemployment benefits. The Division of Workers’ Compensation applies its own test when determining whether you’re entitled to workers’ comp benefits.
The classification issue also comes up regularly with the California Department of Labor Standards Enforcement (DLSE), the agency responsible for enforcing wage and hour laws. When employers misclassify workers as independent contractors, they are evading their responsibilities to provide overtime pay, meal periods and rest breaks, and other similar rights guaranteed to employees. If you have a wage and hour claim against your employer and your employer claims you’re an independent contractor, the DLSE will apply its classification test to decide who is right.
The DLSE Classification Test
The DLSE starts with the presumption that a worker is an employee. It then applies a multi-factored test called the “economic realities” test to see whether the worker should be classified as an independent contractor. The DLSE considers the following factors:
- How much control does the company have over how the work is done? This is the most important factor and given the most weight by the DLSE. The DLSE is more likely to classify a worker as an employee if he or she has been trained by the company, follows company guidelines for when and how to perform the work, and is supervised by a company manager.
- Is the worker engaged in a separate occupation or business from the alleged employer? Workers who have their own businesses and perform work for multiple customers or clients are more likely to be independent contractors.
- Is the work part of the company’s regular business operations? If so, the individual performing the work is more likely to be an employee. For example, a receptionist who works at an accounting firm is more likely to be an employee than someone who creates an occasional promotional newsletter for the firm.
- Who provides the materials or equipment needed for the work? If the company provides, or reimburses the worker for, materials and equipment, the worker is more likely to be an employee.
- Does the work require a special skill? The more specialized the skill required for the work, the more likely the worker is an independent contractor.
- Is the type of work usually done under the supervision of a company or by a specialist without supervision? A worker can still be an employee, even if the company provides minimal supervision, if the work is typically done by a specialist who doesn’t need supervision.
- Does the employee have the opportunity for profit or loss? Independent contractors are considered to be in business for themselves, which includes an opportunity for making a profit or loss.
- How long are the services expected to last? Employees typically work at will for an unspecified period of time, while independent contractors usually work for an agreed upon period of time (usually the length it takes to complete a certain project).
- How permanent is the working relationship? If the company can terminate the relationship at any time, the worker may be an employee. But, if the company can’t end the services until the project is complete, the worker may be an independent contractor.
- How is the worker paid? Employees are usually paid a salary or on an hourly basis, whereas independent contractors are usually paid by the project.
- Do the parties believe they have created an employment relationship? Whether the parties believe they have created an employment relationship is relevant, but not determinative. For example, the DLSE will take into consideration the fact that the parties signed an Independent Contractor agreement, but it will not be the deciding factor.