In the face of the pandemic over the last year, Congress issued several rounds of unemployment assistance through the CARES Act not only to employees but also to workers classified as independent contractors or self-employed. While this comes as a welcome relief to those workers facing economic challenges, it complicates the already confusing issue of whether an independent contractor is properly classified as such.
The Internal Revenue Service (“IRS”), United States Department of Labor (“USDOL”), and each state department of labor and department of revenue (“state DOL” or “state DOR”) all have the authority to reclassify independent contractors as employees, triggering large civil penalties and tax or unemployment insurance contribution assessments, and in some cases criminal investigations. With this myriad of differing agencies, an employer could potentially be subject to four separate audits or investigations. Typically, the IRS or USDOL is involved first, and if one of them reclassifies more than a handful of workers, it then will notify the state DOL or state DOR.
What complicates matters further is that each of these four agencies may apply different standards in distinguishing between an employee versus an independent contractor. Currently, the USDOL uses a much broader definition of “employee” than the IRS. Additionally, Alabama’s DOL and DOR typically rely on the “common law” or “20-factor test” codified by the IRS in the 1980s and ironed out through subsequent cases, although their interpretations of that test may vary from the IRS’s own determination or the countless court cases. The USDOL has pressured state DOLs over recent years, however, to drop the 20-factor test and adopt the USDOL’s more expansive test. While Alabama has pending legislation (HB 408) that seeks to provide clearer and more consistent guidelines on the independent contractor designation and make uniform the use of the IRS’s applicable test (currently, the 20-factor test along with the Revenue Act of 1978 Section 530 “safe harbor”), confusion will remain so long as the IRS, USDOL, and each state DOL or DOR applies its own standards.
On March 10, 2021, Congress passed its third round of pandemic assistance, known as the American Rescue Plan Act of 2021. This act extends the CARES Act unemployment provisions until September 6, 2021, and like the first two rounds of the CARES Act legislation, contains pandemic unemployment assistance for self-employed individuals, including independent contractors. Although independent contractors already receiving pandemic unemployment assistance will not be required to reapply, those who are newly eligible (or newly applying) must submit an application for benefits under the new stimulus act. Businesses should be concerned about independent contractors submitting applications for benefits without specifying that they are indeed self-employed, or worse yet, listing your business as the “employer.” At best, this will create confusion. At worst, this could result in legal exposure for businesses if these applications are maintained and later construed as records that those independent contractors are actually employees.
Companies that have used independent contractors in the past and plan to continue doing so in the future need to take inventory of the nature of their independent contractors’ work performed and compensation received. Businesses can be better prepared to challenge an audit with a few simple steps, including designating a single human resources representative or counsel to review all claim notices for pandemic unemployment assistance; implementing and periodically reviewing clear independent contractor agreements; monitoring the applicable independent contractor criteria in your jurisdiction; and collecting relevant information on current independent contractors to support their classification, including the length of time they’ve been performing services for your company.
If your company receives notification from the relevant state agency or otherwise learns that an independent contractor is claiming unemployment benefits without specifying that he or she is self-employed, you should appeal that claim and seek a hearing on a timely basis. Absent a challenge to that designation, a company may find itself subject to a final determination that the individual is indeed their employee, which could result in a broader conclusion by that agency (or other state or federal agencies) that all workers in a similar role are also misclassified employees.