Employers Must Clearly Distinguish Independent Contractors From Employees

The traditional office environment is quickly becoming a thing of the past. As health care costs and other operating expenses have skyrocketed in recent years, more companies are choosing to outsource jobs to independent contractors who work from home or other off-site locations.

While these individuals may help employers trim costs and maintain profitability, they can present some sticky legal situations if they are injured in the line of work.

"This has become an important issue for employers who haven't clearly defined these workers," said Niki T. Ingram, attorney with Marshall, Dennehey, Warner, Coleman & Goggin in Philadelphia. "You must be honest with yourself and your company, and say that this person is an employee and this person is an independent contractor."

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Ingram said it is critical that employers correctly determine whether individuals providing services are employees or independent contractors. Generally, employers must provide workers' comp coverage, withhold income taxes, withhold and pay Social Security and Medicare taxes, and pay unemployment taxes on wages paid to an employee. However, these requirements generally do not apply to independent contractors.

"However, just because you give someone a 1099 (tax form), that doesn't mean that they are an independent contractor," she said.

Different tests are used to determine independent contractor status. The Internal Revenue Service's test uses a number of factors to determine whether a worker is an employee. Ingram said the general rule is that an individual is an independent contractor if the employer has the right to control or direct only the result of the work and not the means and methods of accomplishing the result.

In addition, there is the Fair Labor Standards Act, which is different than the IRS test because it uses six factors to make the determination. These factors are: 1) whether the employer controls the way in which the work is done; 2) the employee's chance to gain a profit or sustain a loss depending on his managerial skill; 3) the investment in equipment or materials made by the work; 4) whether the service requires special skill; 5) the degree of permanence of the working relationship; and 6) whether the service being rendered by the worker is an integral part of the employer's business.

Ingram said it is also critical that an employer know the standard for their state regarding independent contractors.

Be clear and consistent. Ingram said employers can protect themselves from claims by ensuring that they are clear and consistent with their policies and documentation regarding employment status. Ingram said employers must:

Document everything. "If you are brought into court, you must be able to show documentation that supports the individual's status as an independent contractor," she said.
Use contracts. "Employers must use contracts that specifically spell out their responsibilities and obligations," Ingram said. "Your legal counsel needs to do that. You may be paying more money up front, but you will save in the long run in overall litigation costs."

These contracts, she said, must be consistent with industry standards and should be professionally drafted.

Be consistent. "If your firm has 17 offices in five different states, you must make sure there are the same expectations at all locations," Ingram said. "Make sure that you aren't doing something with one group of employees that isn't consistent with the rest of the company."
Make sure that employees understand their roles. "Make sure that your workers understand what their roles are," Ingram said. "This is a tremendous help if you go to court. Make sure employees are told what they can and can't do, and have them sign off on it."
Focus on orientation. During orientation, Ingram said, it is important that policies are explained and that employees sign off that they received and understand the policies.

Watch for trends. In addition to the increased use of independent contractors, Ingram said, employers should keep their eyes on several emerging issues. These trends include:

Increased telecommuting. "More people are telecommuting and working from home, and this trend is likely to increase in the future," she said. "It raises questions over what is considered a compensable injury. I don't know that there is a completely clear picture at this time."

Jim Pocius, also an attorney with Marshall, Dennehey, Warner, Coleman & Goggin in Philadelphia, said the issue is complicated because some states have laws that exclude these employees from coverage. However, he said that whether an employee is injured at home or in the workplace, so long as the injury arises out of or in the course of employment, the employee should be compensated.

Pocius said employers need to use contract law and establish an agreement in writing regarding the home office. The agreement, he said, should address the use of equipment, the hours of work expected, and the delineation between home and work life.

Move toward four-day workweeks. Ingram said she has noticed that employers are abandoning the traditional Monday through Friday workweek in favor of a four-day schedule in which employees work longer hours over a shorter span of time.

"Four-day workweeks may appeal to employees, however, companies should examine what this new schedule will do to their workers' comp costs," she said.

Implications of increased globalization. "We are seeing more law firms outsourcing some services overseas, as well as physicians outsourcing medical record services," Ingram said. "Should employers be concerned about workers' comp liability for these individuals? Probably not, but it is important to make sure that those parties are clearly identified as independent contractors."

February 10, 2009

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