In an effort to reduce employee-related costs (e.g., payroll taxes, unemployment insurance and workers’ compensation), some companies in the construction industry have devised a new classification of worker as an alternative to employee and independent contractor. The new “other than” employee classification: owner.
While the notion of misclassifying workers as owners – who would receive distributions rather than wages – might sound like a clever idea that is worth implementing, an analysis of the potential risks might lead you to a different conclusion. Under federal law, to avoid being considered an employee (and to forfeit employment protections), a worker must truly be an owner.
Beginning in 2011, the U.S. Department of Labor (DOL) has been scrutinizing companies that classify workers as “other than” employees, particularly in the construction industry. Most frequently, but not always, “misclassification” occurs when companies treat as independent contractors workers who should really be employees. DOL’s expressed concerns in this area arise because “misclassified employees are often denied access to critical benefits and protections – such as family and medical leave, overtime, minimum wage and unemployment insurance – to which they are entitled.” Misclassified employees may also lose out on workers’ compensation or other employer-sponsored benefits. Also, in most cases, employers do not pay Social Security and Medicare taxes for those individuals.
To determine whether someone called an “owner,” “shareholder” or similar title should actually be treated as an employee, the U.S. Supreme Court has identified six key factors to evaluate:
1.The employer can hire or fire the individual or set his rules of employment.
2.The employer supervises the individual’s work and, if so, to what extent.
3.The individual reports to someone else at the employer.
4.The individual can influence the employer and, if so, to what extent.
5. Any written agreements or contracts show that the parties intended the individual to be an employee.
6.The individual shares in the employer’s profits, losses and liabilities.
Applying these factors, even if there is some kind of ownership agreement between the company and worker, if a worker can be hired and fired by the company, is supervised by the company and has little influence over how the company operates or how the job is to be performed, the worker will likely be treated as an employee by the courts and federal and state agencies.
For an employer that misclassifies workers as owners, the potential consequences are significant: lawsuits for back wages, overtime, and benefits and liability for fines, penalties, liquidated damages and interest. Moreover, the liabilities are not limited only to the employing company or organization. Owners, managers and financial staff can be, and frequently are, held personally responsible. Personal liability cannot be avoided through business or personal bankruptcy or creating a successor entity.
In the final analysis, the expense of properly treating workers as employees pales in comparison to the cost of playing games with federal classification requirements.
Christopher D. Lonn