Contractors: First thing to do is to make
sure that your independent contractor is in fact an
independent contractor. With the July 2018 California Supreme Court decision, the old issue of who controls who, when, where
and how a person does a job, project or work, is no longer valid in California.
Back in the good old days (April 29, 2018) California applied the "multi-factor" or the "economic realities" test adopted by the California Supreme Court in the case of S. G. Borello & Sons, Inc. v Dept. of Industrial Relations (1989) 48 Cal.3d 341in deciding whether or not someone was an Independent Contractor. In applying the economic realities test, the most significant factor to be considered is whether the person to whom service is rendered (the employer or principal) has control or the right to control the worker both as to the work done and the manner and means in which it is performed. (source) There were numerous other factors taken into consideration, but that was the biggie.
Dynamex Operations v. Superior Court changes everything and now requires employers to follow an ABC test when evaluating whether or not the individual being dispersed funds as an Independent Contractor is indeed an Independent Contractor (IC) not an employee. As an FYI under this decision the assumption is made that just about everyone is an employee.
This decision not only expands the definition of “employee” under the California Wage Orders, it also imposes an affirmative burden on companies (that would be you) to prove that independent contractors are being properly classified.
To meet the burden set forth by the ABC Test, a business must establish each of the three ABC factors and each factor must be met 100%.
A) The worker is free from the control and direction of the hiring entity in connection with the performance of the work, both under the contract and in fact;
This is similar to the common-law test used in Borello, asking whether the person is free from the "type and degree of control a business typically exercises over employees. What it means in reality is the company does not tell the Independent Contractor what to do, how to do it, issue timelines for projects to be done, etc. all of those factors are driven by the Independent Contractor. read more here
B) The worker performs work that is outside the usual course of the hiring entity's business;
This focuses on whether the person is "providing services to the business in a role comparable to that of an employee, rather than in a role comparable to that of a traditional independent contractor.” For example if you are a bakery and you hire a plumber, because plumbing is not your “usual course of business” the plumber could be an Independent Contractor, however if you hire a cake decorator as an Independent Contractor you have probably misclassified them, because…well you are a bakery.
C) The worker is customarily engaged in an independently established trade, occupation, or business of the same nature as the work performed.
This element focuses on whether the worker “independently made the decision to go into business for himself or herself.” Soooo do they have a website, are they a LLC or corporation, do they advertise and offer their services to other people outside of you.
Failure to establish any of the three factors (remember its 100% each) will result in a determination that the worker is an employee as a matter of law.
You may be wondering what the big deal is, I mean how bad can it be if you misclassified someone as an Independent Contractor and they turn out not to be one.
If the misclassification was unintentional, the employer faces at least the following penalties based on the fact that all payments to misclassified independent contractors have been reclassified as wages:
$50 for each Form W-2 that the employer failed to file because of classifying workers as an independent contractor.
Since the employer failed to withhold income taxes, it faces penalties of 1.5% of the wages, plus 40% of the FICA taxes (Social Security and Medicare) that were not withheld from the employee and 100% of the matching FICA taxes the employer should have paid. Interest is also accrued on these penalties daily from the date they should have been deposited.
A Failure to Pay Taxes penalty equal to 0.5% of the unpaid tax liability for each month up to 25% of the total tax liability.
If the IRS or the Department of Labor suspects fraud or intentional misconduct, (misclassification) it can impose additional fines and penalties. For instance, the employer could be subjected to penalties that include 20% of all of the wages paid, plus 100% of the FICA taxes, both the employee's and the employer's share.
In addition, criminal penalties of up to $1,000 per misclassified worker and one year in prison can be imposed and the person responsible for withholding taxes could also be held personally liable for any uncollected tax.
Yeah… it’s a big deal
EMPLOYER RECOMMENDED ACTION
All California businesses with independent contractors will need to conduct a thorough evaluation of ALL Independent Contractors to determine whether they are properly classified.
If they fail any section of the ABC test, consider moving them over to classification of employee, as soon as possible.
The IRS, on the other hand, looks at three main items: does the worker pay his/her own business expenses, are his/her services continuously available for the general public’s use and finally the manner in which the workers compensation/pay is determined.
Following is a list of some common law factors used by the IRS to determine the “status” of an independent contractor (if they meet any one of these they are an employee):
1. Does the person follow detailed instructions?
2. Is the person provided training at your cost?
3. The person’s services are integrated with your routine business operations.
4. The person’s services are rendered personally/directly.
5. You hired, supervised or paid the person’s assistants.
6. Your business relationship with the person extends beyond the scope of a given project.
7. You set the hours of work for the person.
8. The person works for you full time.
9. The person works on your premises. (This is not a strong point by itself).
10. The work sequence is set/controlled by you.
11. The person is required to give you regular oral or written reports.
12. The person’s compensation/pay is a wage or salary rather than a per-project fee.
13. You pay the person’s travel and/or business expenses.
14. You provide the tools and/or materials.
15. The person has no significant investment in the facilities used in performing services.
16. The person can’t realize a profit or suffer a loss as a result of services performed for you.
17. The person does not work for any other firm.
18. The person does not offer services to the general public on a regular basis.
19. You can discharge the person.
20. Your business relationship can be ended without liability.
If it is found that the independent contractor is in fact NOT an independent contractor your company will be subject to paying federal back taxes (State taxes as well), forced to pay penalties for non-compliance with minimum wage and overtime laws. In addition, possible non-compliance with health, retirement benefit requirements and state laws. In court, the burden of proving the status of an independent contractor rests solely on the hiring company. Even if a company wins in court it is often so costly that is forces many small businesses into bankruptcy.
You can find a copy of the IRS form SS-8 at this IRS link http://www.irs.gov/pub/irs-pdf/fss8.pdf . Just print it out fill it in and send it off for clarification from the IRS if the person is or isn’t an independent contractor. This will help keep you on track.
If you have any questions concerning form SS-8 Determination of Worker Status for Purposes of Federal Employment Taxes and Income Tax Withholding.
Please contact us at:
7231 Boulder Ave. #526
Highland, CA 92346