"Independent Contractor" or Employee? The Difference Could Mean $2.6 Million for the State's Unemployment Fund
Patricia Moulton Powden
The Vermont Department of Labor is cracking down on businesses it suspects of avoiding unemployment tax payments by misclassifying workers as independent contractors. An investigation of Seven Days, focused on the employment status of its weekly distribution drivers, is under appeal.
At issue is whether targeted companies should be required to make payments into the state unemployment insurance fund for individuals who aren’t on the payroll — self-employed “1099” workers who get paid for their services, often by multiple companies, and assume responsibility for their own tax payments. These businesses are also being investigated for workers’ compensation coverage. In the case of Seven Days, the contested workers are delivery people who drop bundles of this and other periodicals around the state — usually just one day per week.
Until recently, the controversy had centered on the construction industry, which relies heavily on contractors who work on projects for a limited time. State Labor Commissioner Patricia Moulton Powden says, however, that misclassification of workers appears to be “widespread across many sectors. Construction gets singled out,” she adds, “but the problem isn’t limited to that.”
FedEx Ground division is also under scrutiny in several states. In June, Vermont Attorney General William Sorrell joined seven AGs around the country in calling on FedEx to cooperate with reviews that could lead to reclassification of drivers that the company now treats as independent contractors. A month before the notification from Sorrell and the other attorneys general, a federal appeals court overturned a National Labor Relations Board ruling that certain FedEx workers should be classified as company employees.
Is it always to workers’ advantage to be on payroll? Many independent contractors like the freedom such work affords them, and there are tax benefits to being “self-employed”: You can deduct your home office, mileage and education on federal tax returns, for example.
But not all self-employed workers have chosen to work as contractors. In recent years, many companies have laid off workers only to rehire them as freelancers. These businesses save money when they don’t need to provide benefits or make payments on unemployment and workers’ compensation insurance. And the former employees are left without those protections.
It’s estimated that up to one-quarter of the U.S. workforce is now self-employed. Earlier this year, Time magazine cited predictions that by 2019 as many as 40 percent of American workers will be operating as independent contractors.
Vermont officials have no estimate of the number of workers in the state who currently fall into the independent-contractor category. The federal government says more than 32,000 Vermonters, or 9.4 percent of the state labor force, held more than one job in 2007. (Nationwide, an average of 5.2 percent of workers have multiple jobs.) Andy Condon, chief information officer for the Vermont Labor Department, says many of the moonlighting Vermonters surely work as independent contractors, but the state has no way of calculating their numbers.
The question is, are Vermont businesses correct in classifying certain workers as free agents? Deputy Labor Commissioner Tom Douse says projections made on the basis of audits for unemployment insurance coverage suggest that as many as 14 percent of businesses in the state misclassify one or more workers as independent contractors. The Labor Department further projects that an additional $2.6 million in unemployment insurance taxes could be collected from Vermont companies if all their allegedly misclassified workers were ruled employees. The Douglas administration calculates, however, that the Labor Department would have to hire 17 more investigators, at an estimated cost of $1 million, to collect that many tax dollars.
Earlier this year, the Vermont legislature approved a funding increase that allowed the Labor Department to hire three investigators to supplement the 10 field workers who conduct random checks of workers’ status regarding unemployment and workers’ compensation coverage. State Rep. Warren Kitzmiller, chair of the House Commerce and Economic Development Committee, says that, given the size of the state deficit, the legislature is looking at “all ways of raising revenue” — including the possible hiring of more Labor Department investigators.
Pressure is especially intense to bail out the state’s unemployment insurance fund, which could run out of money in two months. Moulton Powden acknowledges that additional tax collections would be welcome, but she says the main goal of the new round of investigations isn’t to fatten the fund but to “level the playing field.” The labor commissioner argues that “if Company A is following the rules for classifying workers, and Company B is not, then Company B can outbid its competitor because it’s saving money on taxes that it should be paying.”
Many of the Vermont businesses believed to be misclassifying workers are not doing it intentionally, Deputy Commissioner Douse cautions. He says confusion about the legal definition of “employment” appears to be widespread. Vermont law currently gives three different definitions of that term, Moulton Powden adds, noting that the Labor Department has asked the legislature to simplify matters by agreeing on a single standard. But lawmakers do not appear likely to take that step.
According to the Labor Department website, an employee’s status must be assessed using two “tests”: “Right to Control” (To what degree does the employer supervise the employee, and for how long?); and “Nature of the Business” (Is the “independent contractor” performing the same tasks as payroll employees?).
Two legislative task forces appointed to examine workers’ compensation and unemployment insurance issues, respectively, are not recommending changes in the definitions of “employees” or “independent contractors.” Kitzmiller says the Workers Comp Misclassification and Fraud Enforcement Task Force that he chairs heard testimony from some employers who complained that the definitions are hard to understand. Other employers told the task force that they are not confused by the definitions, Kitzmiller adds.
“People are reluctant to kick that particular hornets’ nest” because the legal definition of employees and independent contractors has been a matter of considerable contention for many years, observes Joe Choquette, a lobbyist for the Vermont Press Association. He recounts a long-running dispute over carriers who deliver newspapers by foot to subscribers’ homes. Vermont officials sought to have these generally teenage workers reclassified as employees of the newspapers rather than as independent contractors. The controversy was resolved in 2005 by legislative action that categorized door-to-door direct sellers such as Avon Ladies as independent contractors, Choquette says, with that definition then being interpreted to cover the on-foot newspaper deliverers, as well.
The question of the status of drivers who drop off bundles of newspapers once a week was left unaddressed, Choquette notes. He says he has heard “anecdotally” of publishers recently coming under investigation by the Labor Department on this issue. The Vermont Press Association has not been asked by its members to seek legislative relief, Choquette reports. He notes, however, that with many newspapers now struggling “just to survive,” an added tax burden could prove crushing.
Labor advocates support the stepped-up enforcement efforts being undertaken in Vermont. Calling misclassification “a big problem” in the state, Vermont Workers’ Center director James Haslam argues that if the Labor Department “isn’t cracking down on this, they’re giving companies an incentive to cheat.”
Matt Lash, marketing director for the Vermont chapter of the International Brotherhood of Electrical Workers, suggests that state officials haven’t been doing enough to discourage businesses from misclassifying workers. “Adding inspectors is definitely a step in the right direction,” Lash says.
On the other hand, small-business owners under investigation by the Labor Department on the independent-contractor issue may find themselves in danger of being forced to close, says Abbott D. Abbott, owner of Vermont Courier. Abbott says his Williston-based firm, which delivers computer parts, human organs and other items via independent contractors, could potentially be whacked with $20,000 in penalties per pay period as a result of audits carried out by the Labor Department. Vermont Courier has six full-time employees, and in 2007, Abbott says, he paid independent contractors a total of $250,000 that would otherwise not have gone into the Vermont economy. “We’d be forced out of business if we were hit with that kind of penalty,” Abbott warns. “Is that what the state wants to have happen?”