In Part 1 of this article I discussed some of the risks, to both employers and workers, when employees are misclassified as independent contractors. In Part 2, I will discuss how to determine an employee from an independent contractor.
How to Determine an Employee From an Independent Contractor
There are no bright-line tests for determining whether an individual is an employee or a true independent contractor. Neither the labels placed on the relationship by the parties or a written, signed contract that specifically states that an individual is an independent contractor is determinative. (S. G. Borello & Sons, Inc. v Dept. of Industrial Relations (1989) 48 Cal.3d 341, 349) Likewise, the fact that an employee is issued a 1099 form rather than a W-2 form will not transform an employee into an independent contractor.
For decades the “right to control the work” test was traditionally used to segregate employees from independent contractors. Simply stated the determination rested on “whether the person to whom service is rendered has the right to control the manner and means of accomplishing the result desired. . . .” (Tieberg v. Unemployment Ins. App. Bd. (1970) 2 Cal.3d 943, 946.)
The exclusive use of the “right to control” test, however, was rejected by the California Supreme Court in 1989. (Borello, supra) The dispute at issue there was whether or not workers hired to harvest cucumbers were “sharefarmers” (i.e., independent contractors) or employees for workers’ compensation insurance purposes. To resolve this issue, the court acknowledged that the right to control test is the “most important” consideration, but also endorsed the use of several other factors when evaluating whether a worker is an employee or independent contractor. The court declared that such an analysis, which came to be known as the “economic realities test,” is based on the evaluation of numerous factors, including the right to control test, and should be applied on a case-by-case basis.
Depending upon the issues involved, factors, other than the right to control the manner and means of accomplishing the desired result, may include, but not be limited to the following:
1. Whether the person performing services is engaged in an occupation or business distinct from that of the principal.
2. Whether or not the work is a part of the regular business of the principal or alleged employer.
3. Whether the principal or the worker supplies the instrumentalities, tools, and the place for the person doing the work.
4. The alleged employee’s investment in the equipment or materials required by his or her task or his or her employment of helpers.
5. Whether the service rendered requires a special skill.
6. The kind of occupation, with reference to whether, in the locality, the work is usually done under the direction of the principal or by a specialist without supervision.
7. The alleged employee’s opportunity for profit or loss depending on his or her managerial skill.
8. The length of time for which the services are to be performed.
9. The degree of permanence of the working relationship.
10. The method of payment, whether by time or by the job.
11. Whether or not the parties believe they are creating an employer-employee relationship may have some bearing on the question, but is not determinative since this is a question of law based on objective tests.
While the various factors to be applied have been identified by courts, the application of these factors can vary greatly depending upon the facts, circumstances and issues in dispute. The California Labor Commissioner’s office has acknowledged that because “different laws may be involved in a particular situation . . . it is possible that the same individual may be considered an employee for purposes of one law and an independent contractor under another law.” (See, http://www.dir.ca.gov/dlse/faq_independentcontractor.htm.)
In addition, not every agency applies the same version of the test. For example, many years ago the IRS identified 20 Factors to be used as guides to assess the likelihood of whether an individual is an employee or an independent contractor. (See, IRS Revenue Ruling 87-41.) Over the years the IRS recognized that business practices had changed. Therefore, the IRS created three categories of factors to assess the degree of control and independence. (See, http://www.irs.gov/Businesses/Small-Businesses-&-Self-Employed/Independent-Contractor-Self-Employed-or-Employee.) The IRS emphasizes that factors in addition to the “20 Factors” may be relevant, that the weight of the factors may vary based on the circumstances, that relevant factors may change over time, and that all facts must be examined. (See, http://www.irs.gov/pub/irs-utl/x-26-07.pdf.)
Minimize Your Risk
The misclassification of employees as independent contractors poses significant risks. The risks include significant economic liabilities, penalties, interest and criminal prosecution. To minimize these risks every time an employer considers hiring someone as an independent contractor, the working relationship should be thoroughly researched and analyzed based on the specific facts existing at that time. If such an analysis is properly performed before the person is “hired” employers can minimize if not completely eliminate the risk associated with misclassification.
Dan Rowley, April 2016