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The High Costs of Employee Misclassification

You hire a graphic designer to work in your office on a short-term project and pay him as an independent contractor rather than a temporary employee. Your bookkeeper—whose workflow you also direct and control—asks to work from home, so you pay her as a freelancer. You’re now guilty of employee misclassification—whether you intended to break labor laws or not.

Since the onset of the Great Recession, the Department of Labor (DOL) and the Internal Revenue Service (IRS) have seen a surge in worker misclassification. With the rollout of the employer-sponsored insurance mandate under the Affordable Care Act (ACA), they expect to see even more—as companies deliberately misclassify employees as independent, temporary or contingent workers in order to come in under the full-time employee limit requiring coverage.

According to the National Employment Law Project, 10 to 30 percent of employers—possibly even more—misclassified employees as independent contractors in 2012. This is equal to millions of misclassifications and billions of dollars in lost tax revenue for state and federal governments. They want that money back, and they’ve stepped up their litigation and enforcement efforts as a result. But that’s not all; in addition to various federal and state penalties an employer may have to pay, there is the potential for expensive individual and class action lawsuits.

Consider the case of Vizcaino v. Microsoft. Initially, the IRS discovered that Microsoft was misclassifying temporary employees as independent contractors and ordered them to correct this error. Microsoft complied, reclassifying its workers according to the law—and in some cases, assigning them to temporary staffing agencies. The term “temporary” implies a short duration of time. However, many of these so-called temps had worked with the organization for years. They decided to sue Microsoft for equal treatment with the “permanent” employees—including the benefit plan with stock purchase options. Microsoft ended up settling the case for $97 million dollars. This was in addition to the millions they had to pay in back payroll taxes.

How can you avoid a similar situation? Experts recommend the following:

  • Seek legal or other professional assistance to ensure your employees are properly classified.
  • Stay current on federal, state and local agency standards for employment status.
  • Limit the length of any “temporary” assignments.
  • If you regularly use the same temporary workers, require a period of non-employment between assignments.
  • Ensure your employee handbook addresses the issue of contingent employees
  • Ensure your benefits information is specific about which workers are not covered by the employee benefits plan.

Would you like additional insight on classifying your employees, or to learn more about the ACA’s employer-sponsored insurance mandate? Contact me today!