The US Department of Labor issued 6 guidelines for evaluating 1099 workers in an attempt to help clarify its increased focus on employee misclassification. How do you know if a 1099 independent contractor should actually be classified as an employee? The first challenge is the simple reality that most business owners who utilize 1099 workers are attempting to reduce costs in the first place. Why should you be concerned as a business owner about using 1099 workers?
The simple answer: a misclassification audit is headed your way, and the expense could threaten the economic viability of your business.
“They’ll never look into a small business like mine.”
The likelihood of a 1099 worker audit is actually quite high for all California employers, regardless of your company’s size. The US Department of Labor hired over 700 auditors last year with one mission: review all US companies with 1099 employees. The IRS separates out returns with 1099 employees for audit review. The California EDD audits all employers every 3 years, and the first question they are asking on new audits is “Do you have any 1099 workers?” Then there are the hundreds of cases where 1099 workers have submitted their own complaints seeking overtime, benefits and other wages.
It isn’t a question of “if” it’s more likely a question of when. The Department of labor’s 6 guidelines for evaluating 1099 workers are based upon the “economic realities” of the relationship between the parties. According to the DOL guidelines all factors of this test must be considered, yet no one factor is “determinative” of whether the worker is to be re-classified as an employee. Rather, the factors should create a “broader concept of economic dependence.”
The six factors or questions in the “economic realities” test include:
- Is the Work an Integral Part of the Employer’s Business?
- Does the Worker’s Managerial Skill Affect the Worker’s Opportunity for Profit or Loss?
- How Does the Worker’s Relative Investment Compare to the Employer’s Investment
- Does the Work Performed Require Special Skill and Initiative?
- Is the Relationship between the Worker and the Employer Permanent or Indefinite?
- What is the Nature and Degree of the Employer’s Control?
The last is based upon the older “model” of an independent contractor. If your 1099 worker earns more than 60% of their income from your company prepare for a serious and challenging audit. The agency will want to see corporate documents showing how the independent contractor’s separate company was established and who provided the initial capital. Is the 1099 worker submitting invoices for work performed? How integral is that work to your company’s overall mission? From the Court’s point of view in recent decisions an independent contractor’s work is unlikely to be integral to the employer’s business.
Does the work performed by a 1099 worker involve specialized skill requiring substantial training, education or a license or professional degree? If the work performed by a 1099 contractor can be performed by employees within your company the misclassification audit will probably not go well.
Do you have questions regarding the 6 guidelines for evaluating 1099 workers or misclassification audits? The experienced business and tax attorneys at Allen Barron can advise you at every step of this process, and represent you in hearings or audit proceedings. We invite you to contact us for a free consultation at 866-631-3470 to learn more about 1099 worker classification and the risks your organization faces in an upcoming audit.