By Mark F. Kluger and William H. Healey
New Jersey’s Governor recently established a task force, like New York’s, to crack down on what he calls wage theft, but is really the use of independent contractors. Although misclassification is not new, the Governor is, and he claims that the state loses over $500 million in taxes annually as a result of companies paying workers as independent contractors rather than as employees. Ironically, this effort is inconsistent with the thriving gig economy in which many workers strive to avoid employment in favor of independent work. Get with the times Phil!
For those unfamiliar with the legal stuff, the classification of a worker as an employee or independent contractor is not made by mutual decision, it is controlled by law. New Jersey follows what is oddly called the ABC Test, which makes no sense because none of the 3 criteria start with A, B or C, so who came up that creative name? The 3 criteria which establish independence are that the worker (1) is free from the company’s direct control in performing services; (2) performs work different from the company’s typical business or outside its place of business; and (3) is engaged in an independently established business; or as we like to call it, the 1,2, 3 Test. If the worker’s relationship with the company fails to meet any one of these criteria, the state classifies them as an employee and requires the employer to pay any back withholding taxes, premiums for Unemployment, Disability and Workers’ Compensation insurance.
The feds will also pile on for taxes and Social Security/FICA contributions. And the feds, well they have their own test known as the “economic realities test,” which the IRS and federal Department of Labor use to come after employers. That test examines primarily whether the worker is economically dependent on the company, the degree of control and the relative permanence of the relationship.
The most critical element under the NJ and fed tests is control. If the company controls when, where and how the worker does the work, an employment relationship is usually found.
Although the NJ DOL conducts random audits, investigations usually ensue when the job ends, either because the project is over or the worker is terminated and applies for Unemployment benefits, or the worker cannot work for health reasons and seeks Temporary Disability benefits which, of course, are not available to a non-employee. We may see even more of this confusion with workers mistakenly seeking paid sick time under NJ’s new earned sick leave law. The penalties for misclassification can be steep. Misclassification under New Jersey’s workers’ comp law, for example, includes a penalty of $5,000 for every 10-days of misclassification.
In the spirit of the season, a state appellate court not long ago sent the NJ DOL packing on its effort to fine a fireworks company more than $30,000 for allegedly misclassifying pyrotechnicians. Happy freaking Independence Day to you too! Not surprisingly, 80% of the company’s work occurs in the week of July 4th. While the company has several full-time W-2 employees who work the shows, it hires roughly 100 others to run displays statewide. According to the court, the owners testified that most of those pyrotechnicians have other full-time jobs “including doctors, teachers, firefighters, and policemen.” Notice what profession is not included, mercifully. At least now we know what happened to those kids we used to call “pyros” in the old neighborhood. Thankfully, the court reversed the DOL finding under the 1,2,3 Test that the pyros worked outside the control of the company. Specifically, the court ruled that these workers were independent contractors because they were given the fireworks and dispersed all over the state with no supervision; worked literally outside the office or plant of the company; and had their own businesses or sources of income, which the court said is not required to be part of the same industry (meaning that they did not need to have a pyrotechnician business to satisfy the third criteria).
More than ever, it’s time be concerned about the validity of your independent contractor relationships. Despite that grand finale by the court in the pyrotechnicians case, the DOLs (state and federal) and the IRS will not stop investigating these classification issues. All employers must stay on top of the best means for classification of workers in order to avoid the costly consequences of an audit. Let us know if you need us to review these relationships.