Why Does It Matter?
The problem is that misclassifying an individual as an independent contractor rather than an employee can have significant monetary consequences on a business, resulting in fines and penalties in the form of double tax and social security withholdings or even monetary fines up to $5,000.00. In order to avoid these penalties and fines, businesses can request a determination from the IRS or the State of Minnesota as to whether an individual is an employee or an independent contractor.
"[M]isclassifying an individual..can have significant monetary consequences."
Another potentially prickly area where employers may unwittingly become exposed is unemployment. A worker’s right to receive unemployment benefits is determined by statute and accompanying administrative regulations. A prerequisite to qualifying for said benefits is actual employment. As such, independent contractors do not qualify for unemployment benefits. However, as we have discussed above, it is quite easy to inadvertently treat an independent contractor as an employee. If a worker misclassified as an independent contractor is terminated and is able to successfully claim and receive unemployment benefits, an employer runs the risk of having its unemployment insurance premiums increased.
Worker’s compensation is yet another area where employers can succumb to the pitfalls of worker misclassification. Generally speaking, in Minnesota, the workers’ compensation act requires employers to carry compensation insurance for employees. Worker’s compensation insurance is not required for independent contractors. If an employer fails to obtain the proper compensation insurance, the act gives effected employees the option to sue the employer. In addition, the Department of Labor and Industry may also assess penalties against employers that fail to carry the required compensation insurance. As such, if it is determined that an independent contractor is actually an employee, an employer can face serious consequences if the employer has failed to procure adequate worker’s compensation insurance coverage.
"If an employer fails to obtain the proper [sic] insurance...effected employees [have] the option to sue the employer."
In addition to tax consequences and civil fines, misclassification of workers can have other unintended results. Under common law, an employer can be held vicariously liable for certain actions of its employees, if said actions are conducted by employees within the scope of the employee’s employment. On the contrary, the general rule relative to independent contractors is that an employer is not liable harm to another caused by an independent contractor’s acts or omissions.
There are, of course, exceptions to the general rule regarding independent contractor liability, but the point is that businesses may be inadvertently exposing themselves to unnecessary and unanticipated vicarious liability by treating their independent contractors too much like employees. By failing to be mindful of the employee vs. independent contractor distinctions, employers by surprisingly find themselves liable for negligent acts performed by workers who they considered independent contractors but that the law actually deems to be employees.
What does this mean for your business?
It is important for all businesses, both large and small, to avoid unnecessary and avoidable expenses. Time and money are valuable, and employers do not want to waste their time or resources dealing with issues arising out of misclassification of employers and/or independent contractors. It is important to be aware of the distinctions and to make informed decisions when designating workers in order to avoid the common pitfalls outlined above.