How Independent Contractors Can Kill Your Business

Posted on Tuesday, May 31st, 2022.

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Business Owners often thinks that if a person works for their company and for another company, that person should be classified as an independent contractor.  Unfortunately, this isn’t true. Who is an independent contractor and who is a W2 employee is one of the top two things that Business Owners get wrong.  When it comes to classifying independent contractors, as a business owner, you don’t have the money or the time for the privileged of being wrong. 

In New Jersey anyone engaged in work for a business is deemed to be an employee unless they meet specific criteria to be classified as an independent contractor.  Many businesses classify those who provide them services as independent contractors without having assessed whether the individuals meet the specific criteria, typically referred to as the ABC Test.  Failing to be assured that the ABC Test is met can have significant consequences for the company if it misclassifies individuals and the Department of Labor audits the company’s designations. 

Audits will typically occur after an individual, classified as an independent contractor submits an unemployment or disability claim.  Many independent contractors filed for unemployment during the pandemic because they were eligible for the federal stimulus money, PUA.  This provided the DoL a large database of individuals classified as independent contractors that the DoL can use to conduct audits in order to confirm that all of the individuals meet the ABC test.  Trimboli & Prusinowski anticipates that independent contractor audits will increase in the coming years as a result of the large number of claims submitted during the pandemic and the DoL’s increased information of who is performing work under an independent contractor designation. 

Our firm has represented many businesses during DoL audits on wages and independent contractor designations.   

During the audit, the DoL will review payroll records to determine who has been paid and whether state taxes were withheld.  Typically, a business will not withhold taxes for those designated as independent contractors.  Anyone who has not had wages withheld will likely be subject to the ABC Test. 

The ABC Test looks at whether the individual works independently; performs the work of the business or at the location of the business; and whether the work performed is that which is typically performed by an independent contractor.  The IRS has a similar 20-part test, which is more detailed and specific on the criteria it looks to for the assessment.  Businesses often do not have sufficient information to determine whether the independent contractor meets all of these criteria especially if it utilizes several independent contractors. 

The DoL will often reject the independent contractor designation and assess back taxes, as far back as four year, penalties and interest, at a rate of 15%, against the company for the alleged improper designation.  Merely because the DoL auditor claims that the designation was incorrect does not mean that the company should pay the back taxes, penalties and interest.  Rather, the company may appeal the determination and seek independent review of its categorization. 

Our firm has represented businesses during independent contractor designation hearings and prevailed in the Office of Administrative Law rejecting the DoL auditors’ assessment. 

If your company utilizes independent contractors, it should engage our attorneys to conduct an internal audit.  Our attorneys can guide your business through the process and anticipate what the DoL would conclude if it were to review the designation.  They can assist with gathering the necessary documents from the independent contractors so the business has them on file in the event of an audit.  This process will empower the business in the event the DoL performs an audit for the prior four years.  We especially recommend the internal audit be conducted for any company who had independent contractors who filed for PUA funds during the pandemic.   See related article on How Independent Contractors Can Kill Your Business ABC Test – Part A

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