Independent Contractor Update: Earlier this year, legislation was introduced that would prevent employers from improperly classifying employees as “independent contractors” in order to avoid paying them overtime and benefits. The Employee Misclassification Prevention Act (H.R. 6111) hasn’t seen any activity since June, when it was referred to the House Ways and Means’ Subcommittee on Income Security and Family Support. (Readers may recall that this was the same time that the Delaware and Pennsylvania state legislatures were reviewing similar legislation).
In light of the impending change in the White House and the pro-union legislative efforts that are sure to follow, it may be time to take a second look at the Employee Misclassification Prevention Act. (Especially since President-elect Barrack Obama was one of two Senators to introduce S. 2044, called the “Independent Contractor Proper Classification Act of 2007,” which would repeal section 530 safe harbor for classifying workers as independent contractors.)
Aside from clarifying that misclassifications are a prohibited act under the FLSA, the proposed bill would also increase penalties under appropriate circumstances and require the U.S. Department of Labor (DOL), and the states to work together to better detect misclassification. In addition, the bill would: (1) require employers to designate on their employee’s records whether they are an “employee” or “independent contractor;” (2) require employers to notify workers of that classification and their right to challenge it; and (3) require state unemployment insurance agencies to audit employers to identify employers who are misclassifying employees.
The DOL and Internal Revenue Service (IRS) would also be required to share information on cases where employers misclassify workers. In addition, the proposed bill would mandate that the DOL perform targeted audits focusing on employers in industries that frequently misclassify employees. Presumably, the construction industry would be a prime target, in light of the fact that the industry was the focus of both Delaware and Pennsylvania’s proposed laws, both of which shared the same name, the Construction Industry Independent Contractor Act.
According to the latest comprehensive study by the IRS, 15% of employers in the U.S. were misclassifying employees as independent contractors. 3.4 million employees were affected. The IRS’s findings are similar to those of the May 8, 2007, report by the Government Accountability Office. The report, titled “Employee Misclassification — Improved Outreach Could Help Ensure Proper Worker Classification,” concludes that there were 10.3 million independent contractors in 2005. That number grew from 6.7% of the total workforce in 1995 to 7.4% in 2005.
And what’s so bad about misclassification? For one, misclassification costs the Treasury billions in lost revenue. Additionally, improper misclassification artificially lowers costs for those businesses that engage in the practice. In turn, the businesses that follow the rules are put at a competitive disadvantage. But the real focus of the proponents of the legislation has been the potential harm to the employees who do not have access to the benefits and protections to which they are entitled under the law.
Misclassification violates the Fair Labor Standards Act (FLSA), because it enables employers to avoid meeting the mandatory minimum wage and overtime requirements. And, just as they are exempted from the requirements of the FLSA, independent contractors also are not protected by worker’s compensation and discrimination laws and are not entitled to unemployment insurance.
The employers’ perspective is equally compelling. For a variety of reasons, such as fluctuating work demands and seasonality, many businesses cannot afford to maintain a workforce comprised exclusively of year-round employees. Independent contractors provide a solution to the demand for personnel with specialized skills and knowledge that may be required for short-term projects. Additionally, the ability to set one’s own schedule is seen by many as an attractive benefit.
GAO Report 2006