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Beware the Legal Risks of Hiring Temps

Before you hire contingent workers, read about five crucial problems and their solutions.

October 17, 2002
Related Topics: Contingent Staffing, Recruitment
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When it comes to permanent hiring, the fall of 2002 will be a cool season atbest. Of 16,000 employers surveyed by Manpower Inc., only 24 percent expected tohire more people before the end of the year. Sixty-two percent say they willmaintain their current staffing levels. Another 9 percent say they will reducetheir workforces.

If your company is among that large number that are placing hiring on hold,it might mean that you’ll soon be hearing from managers who want to hirecontingent workers to pick up spikes in year-end work flow, or temporarily fillcritical but vacant positions until the economy revives. Before you startsending out requisitions to your favorite staffing agency, however, it’s worthtaking a look at the legal issues HR faces in contingent hiring.

Conventional wisdom dictates that using temporary staff, especially thatprovided through temporary-staffing agencies, allows companies to save onrecruiting, training, and payroll costs, particularly when it comes to staffinghigh-turnover and seasonal job categories. But are these assumptions about thecost-effectiveness of temporary staffing justified in light of the considerablerisks of legal liability attendant upon the use of temporary workers? Perhapsnot.

Recent court cases dramatically highlight the legal and financial risks ofimproperly classifying and treating temporary staff. In a well-publicizedclass-action case, a federal court approved a $97 million settlement betweenMicrosoft Corp. and a group of so-called “permatemps” who weremischaracterized as “temporary” workers and denied valuable employeebenefits and pension benefits over the course of several years. The legal damageaward utterly wiped out any financial or administrative benefits that Microsoftmight have realized in structuring as “temporary” its relationship with theaffected employees.

The Microsoft case shows how important it is to understand howtemporary-staffing relationships are structured. This understanding is, in fact,the first key to managing legal risks. Companies typically employ twotemporary-staffing models. The first involves

directly hiring workers onto the company’s payroll and classifying themseparately from regular employees. These workers are often referred to by suchterms as temporary, casual, occasional, or seasonal employees. This approachhelps employers create and maintain an available pool of workers to filltemporary and seasonal positions quickly, but does little to address the highcost of recruiting and training temporary workers.

The second method involves “leasing” employees for a fee from an outsidetemporary-staffing agency that, in turn, handles all recruitment, training,payroll, and benefits for the temporary workers it furnishes to its clientcompanies. These “leased” employees are typically not on the employer’spayroll and are not provided with fringe benefits such as group healthinsurance. Under this “leased” employee model, the costs of recruiting,training, and benefits and payroll administration are shifted to the outsideagency. Both approaches have potential legal pitfalls if they’re not handledproperly. Companies often overlook the risks associated with five criticalissues:

• Sexual harassment and discrimination

• Wage and hour laws

• The Family and Medical Leave Act

• Labor organizing, and significant employee morale and equity issues thatcan sometimes give rise to it

• Employee benefits

Here is a refresher course on what can make temp hiring tricky, and somestrategies for reducing the legal risks that HR might encounter in fivesignificant areas.

General misconceptions
    Many workplace legal issues in temporary staffing can be traced to widelyheld misconceptions about who is and is not an “employee” of a givencompany. How many times have you heard someone say, “Well, she’s not anemployee, she’s only a temp”? Such statements illustrate a myth about thestatus of temporary workers in the workplace. The fable is particularlyprevalent when it comes to agency-supplied temporary workers, who are oftenrecruited, trained, and paid by the temporary-staffing agency. To theunsuspecting manager or supervisor, the temporary workers are solely employeesof the agency that supplied them and have no formal ties to the employer thatcontracts for their services. This type of thinking, though, is sure to resultin legal difficulties.

The “dual employment” concept
    For purposes of most employment laws, with certain limited exceptions,employees of temporary-staffing firms working in an employer’s workplace willbe considered to be employees both of the agency and of the employer. This isthe so-called “dual employment” view espoused by the U.S. Equal EmploymentOpportunity Commission, the U.S. Department of Labor, and by many courts. Dualemployers can be held jointly liable for each other’s workplace-lawviolations, even though they exercise little influence and no control over eachother. It is a scary thought for HR unless it has thought out the legal issuesin advance and taken steps to ensure compliance.

The problems begin because many supervisors and managers mistakenly believethat temporary-staffing employees are not the company’s employees. It’sunderstandable. They see that an agency-provided worker is accountable to theagency, is recruited and trained by the agency, and is paid by the agency.Additionally, agreements between the agency and the employer, as well as theemployer’s own written policies, usually state unequivocally that temporarystaff will be considered as employees of the staffing agency only and not of theemployer.

However, the law looks beyond mere labels and focuses instead on the degreeof control exercised over an individual’s day-to-day activities. And keep inmind that an employee can have more than one employer. For instance, an employeeof a temporary agency working on assignment may very well be seen as an employeeof both the temporary agency, which hires her and pays her wages and benefits,and the client to which she is assigned, which directs her schedule andday-to-day work activities. The greater the control exercised over an employee’spay, benefits, work hours, and day-to-day work activities, the greater thelikelihood that an employment relationship (or joint employment relationship)will be found to exist.

The common misperceptions about the legal status of temporary staff sometimeslead to poor decision-making when it comes to workplace policies and employmentlaws and regulations. For instance, supervisors sometimes assume that it isappropriate to dismiss a temporary employee simply by calling up the agency andasking for someone new to be sent over, without vetting the decision through HRor giving thought to possible liability issues regarding discrimination orretaliation.

Temporary workers are often dismissed quickly, without the same level of careand caution that managers usually exercise when dealing with traditionalemployees. Likewise, there is the risk that temporary staff will be subjected tosexual or racial harassment because of the mistaken idea that they are notcovered by workplace laws forbidding such behavior. The danger is that companiessometimes make important personnel decisions hastily or use criteria that wouldnever be applied to regular staff under the false assumption that temporaryworkers do not enjoy the same legal rights or privileges as regular staff.


It’sHR’s job to increase awareness among supervisors and managers that temporaryworkers are entitled to the same protections against discrimination, harassment,and retaliation as are so-called “regular” staff members.

The reality is that temporary employees are covered under most of the samelaws that apply to regular staff, including laws relating to wage and hour,discrimination, sexual or racial harassment, retaliation, or whistle-blowing. It’sHR’s job to increase awareness among supervisors and managers that temporaryworkers are entitled to the same protections against discrimination, harassment,and retaliation as are so-called “regular” staff. HR should encouragesupervisors and managers to act just as prudently and carefully when dealingwith temporary staff as they would with regular employees. This effort mightinclude a review of your organization’s employee manual to ensure that, whereappropriate, policies are reworded as necessary to make it clear that these lawsapply to temporary employees, too.

Wage and hour compliance
    This is a particular area of concern for HR. Federal and state wage and hourlaws require that nonexempt employees be paid overtime at one and one-half timestheir regular hourly rate for all hours worked over 40 in a single workweek.Certain employees can be considered “exempt” from these overtimerequirements if their work duties are of a distinctly executive, administrative,or professional nature and if they are paid a regular salary that does not varyaccording to the quantity or quality of their work. However, an “exemption”can be lost if the employee spends more than 20 percent of the workweekperforming nonexempt duties or if the employee is not paid a regular, fixedsalary, under the so-called “20 percent rule.” Difficulties arise insituations where an employee holds two (or more) positions with the sameemployer, one of which is a temporary, nonexempt (hourly paid) position obtainedthrough a temporary-staffing agency.

Consider the following example. Jane, a claims manager, regularly works 35hours per week as a salaried exempt employee on the payroll of a large insurancecompany, ABC Corporation. ABC classifies Jane’s position as exempt fromfederal and state overtime requirements because of the administrative nature ofher duties and because it pays her a regular, fixed salary that does not varyfrom week to week, no matter how industrious, or unproductive, she is.

Unbeknownst to ABC’s HR department, Jane also works 15 hours per week atanother of ABC’s branch offices near her home on assignment through atemporary agency, TempCo, as a part-time evening transcriptionist. TempCo paysher on an hourly basis through its own payroll system and treats her as “nonexempt”from overtime requirements. Jane is nonexempt in her transcriptionist role bothbecause she is paid on an hourly basis and because her typing duties do notqualify under the executive, administrative, or professional exemptions.

Jane is performing two jobs for ABC, one directly on the ABC payroll and theother on the temp-agency payroll. This dual-employment scenario creates legalpitfalls from the failure to pay overtime, unless both employers are aware ofthe shared employee and properly manage the situation. For instance, wage andhour laws will likely invalidate Jane’s overtime exemption under the 20percent rule because, taking into account both jobs, she is spending more than20 percent of her total weekly work hours for ABC performing nonexempt duties.In addition, ABC and TempCo will likely have to aggregate all hours worked byJane each week (35 + 15 = 50), so that 10 hours of statutory overtime pay (attime and a half) is due to Jane each week. ABC and TempCo might be held civillyliable in damages for back pay consisting of unpaid overtime, in addition topossible penalties and attorneys’ fees.

To prevent such problems from arising, HR should have a reliable system toaccount for all weekly hours worked by the employee, whether on the employer’spayroll or on a temp agency’s payroll. Only with such a system can youdetermine with any degree of accuracy if an otherwise exempt employee continuesto enjoy the exemption in any particular workweek by not performing more than 20percent nonexempt duties in that period. If there is no exemption, or if theexemption is lost for a particular workweek, the system will be necessary todetermine how many hours in the aggregate have been worked in excess of 40 forthe workweek so that you can calculate and pay statutory overtime.

Another challenge for HR is arriving at the proper regular weekly rate of payfor the employee if the two positions have different rates of pay. If, forexample, an employee holds a regular full-time job at $10 per hour, and alsoperforms services for the same employer through a temporary agency at $8 perhour, issues arise as to the proper rate of pay to use in calculating statutoryovertime. Recall that overtime generally must be paid at the rate of one and one-half the employee’s regular (hourly)rate of pay. Two calculation methods are generally acceptable when two jobs attwo rates are involved. One requires the averaging together of the two rates toarrive at a “blended rate.” The other uses the hourly rate of the positionin which the employee is actually working at the time the overtime hours areworked. Either method, though, requires that the employer notify the employee inadvance of the method to be used.


HR shouldregularly and clearly communicate with the temporary-staffing agency to ensurethat both the company and the agency are in compliance when it comes to dualemployees.

Of course, if HR is not aware of the issue, it cannot perform the necessarycalculations or notifications. HR should first create a reliable system toidentify dual employed workers and arrange weekly reporting of hours worked forthe temp agency. HR should then address these compliance issues in the employer’scontracts with its temporary-staffing providers. And finally, HR shouldregularly and clearly communicate with the temporary-staffing agency to ensurethat both the company and the agency are in compliance when it comes to dualemployees. 

Family and Medical Leave Act
    Another compliance area that needs HR’s attention is the Family and MedicalLeave Act. The FMLA allows eligible employees to take 12 weeks of unpaid leavebecause of their own serious medical condition or that of a parent, spouse, orchild.

There are a number of possible issues involving the FMLA and temporaryemployees. First, employees are eligible to take FMLA leave only if: 1) theyhave worked for the employer for at least a total of one full year and 2) theyhave worked at least 1,250 hours for the employer in the last calendar year.

Problems can arise when an employee moves from a temporary position on anagency’s payroll to a regular position on the employer’s payroll. Priorservice for the employer through a temporary agency might be overlooked, eitherin calculating the one-year-of-service requirement or the 1,250-hourrequirement. HR and line managers must be aware that prior service and hoursworked by an individual through a temporary-staffing agency on the employer’spremises must be taken into account in determining service and hours eligibilityunder the FMLA.

Other issues arise when a temporary employee takes FMLA leave while workingon assignment at an employer’s work site. FMLA regulations provide that the temporary-staffing agency is primarilyresponsible for giving FMLA notices and granting leave to its temporaryemployees working at remote locations. Thus, the temporary agency is responsiblefor educating its employees about their FMLA rights, notifying employees inwriting when leave is being counted toward the 12-week entitlement, maintainingbenefits, and reinstating employees following covered leaves of absence.

Essentially, the temporary-staffing agency is primarily responsible foradministering the FMLA with all of its employees, just as the employer does forits so-called regular employees. The challenge here for the HR professional isto not assume that the agency is complying with the FMLA. Rather, the prudent HRprofessional will seek explicit assurances from the agency that FMLA guidelinesare being followed.

Also, employers may need to cooperate with temporary-staffing agencies toallow leave-taking temporary employees to return to an assignment following anFMLA-covered absence. That fulfills the FMLA’s requirement that an eligibleemployee returning from leave be reinstated to the same position or anequivalent position with equivalent pay and benefits.

Hiring procedures and background checking
    A growing number of employers conduct pre- and post-hire checks of applicantcriminal history and other background information, such as exclusion/debarmentlists in the health-care area. When it comes to temporary employees, HR mustensure that temporary-staffing contractors are conducting criminal or otherbackground checks, as applicable, before sending over a temporary employee. Youshould verify that the agency is following the federal Fair Credit Reporting Actand any applicable state laws in conducting such checks.

These requirements should be part of any service or vendor contract with thetemporary-staffing provider. Additionally, employers must continue to ensurecompliance by outside temporary-staffing firms with various otheremployment-related laws, such as laws and regulations relating to payroll taxes,income taxes, and immigration laws.

Labor-organizing responses
    A recent decision by the National Labor Relations Board gives temporary andcontingent workers the right to be included in the same collective-bargainingunit with so-called regular employees, even without the consent of employers. Thisdecision overturned years of established precedent.

You should be keenly aware of the potential for union organizing amongtemporary staff. Be aware of workplace sentiment on such issues as fairness andequivalent treatment, particularly between regular and temporary staff. If aunion mounts a campaign and successfully organizes temporary workers, it islikely that your organization will lose much of the financial incentive it hadfor using them in the first place. The costs of fighting a union-organizingcampaign, negotiating collective-bargaining agreements, dealing with uniongrievances, and possibly paying higher union wages and employee benefits arelikely to erode any projected savings from using temporary workers.

These added costs are likely to have a serious impact on the bottom line, andmake it that much harder for you to maintain adequate staffing levels to meetongoing needs and existing levels of service. HR should monitor and addressmorale and equity issues affecting temporary workers, as it should with allemployees, to prevent unions from exploiting these issues and gaining a toehold.

Employee-benefits issues
    Frequently, employee-benefit plans exclude temporary or leased workers fromcoverage, and there is no inherent problem with that. Further, most planscontain a specific exclusion for leased employees. Employers should review allwelfare and fringe-benefit plans to see whether they contain an explicitexclusion for leased employees, temporary employees, or employees who are nototherwise on the payroll. If it’s not there, HR should add it.

Although an employer may affirmatively exclude leased employees from itsbenefit plans, there are some important caveats to bear in mind. Leasedemployees generally must be taken into account in performing coverage andnondiscrimination testing for qualified retirement plans. This can be a problemif there are significant groups of long-term leased employees that wouldotherwise be eligible to participate in the employer’s retirement plans exceptfor their leased-employee status.

Leased employees may also have to be included in coverage testing for certainhealth and welfare arrangements. Service as a leased employee generally must betaken into account in determining whether an employee is eligible to participatein the employer’s plans or was fully vested in benefits.

As a practical matter, some or all temporary workers may have fewer than1,000 hours and may be excluded from participation and for service-countingpurposes. However, it may not be possible to rely on this 1,000-hour exclusionto the extent that a particular temporary worker’s employment status wasmanipulated to keep her service under the 1,000-hour level.

For instance, some classes of temporary employees are hired directly on to anemployer’s payroll and intended to work on a temporary basis, but not morethan 1,000 hours in a year. In practice, some employers hire these temporaryworkers and let them work until they have nearly 1,000 hours of service. At thispoint, the employer sometimes will “transfer” the employee to the payroll ofa temporary-staffing agency. This ensures that the temporary worker iscontinuously employed but never works more than 1,000 hours for any singleemployer during a year.

This arrangement is problematic for several reasons. It leaves the employervulnerable to fiduciary claims under the Employee Retirement Income SecurityAct. Section 510 of ERISA provides that it is unlawful for an employer or plansponsor to interfere with an employee’s right to benefits under an ERISA-coveredplan. The argument is that the employer’s manipulation of a temporary worker’semployment status runs afoul of Section 510 because it prevents the worker fromever becoming eligible for benefits.

There is also a risk that the employer or the fiduciaries for the employer’sERISA-covered plans may be liable for a breach of their fiduciary duty underERISA for failing to cover employees under the employer’s plans, or forfailing to advise employees of their rights to be covered under the plans. An employer could be required to provide retroactive benefits to affectedemployees, at tremendous expense, as was the case in Herman v. Time Warner, No.98-CIV-7589 (S.D.N.Y. 1998).

Additionally, a governmental agency, such as the IRS or the Department ofLabor, could audit the employer’s employment practices and determine that someor all of its temporary or leased workers are, in fact, regular employees thatshould have been covered under the terms of the employer’s plans. In such acircumstance, the governmental agency would likely insist that affectedemployees be given retroactive benefits under the applicable plans.

Temporary employees who work on a substantially full-time basis may also beable to sue their employers and make their own claims for benefits under theterms of the employer’s benefit plans. The success of any such claims forbenefits ultimately relates to the eligibility provisions of the particular planand the interpretation of such provisions by the reviewing committee or court.As with the leased-employee scenario described above, there is nothinginherently wrong with excluding from a benefit plan all temporary employees as aclass, but the employer’s plan documents should be absolutely clear on thispoint. HR should review pension, health, welfare, and fringe-benefit plans toensure that they contain appropriate exclusionary language.

Additionally, you should make sure that all the plans contain appropriatelanguage giving the plan administrator the necessary authority to interpret andapply the plan provisions. This language will preserve the deferential “arbitraryand capricious” standard of review that generally is afforded to planadministrators.

If handled properly, the use of temporary workers can streamline therecruiting and hiring process and yield substantial cost-savings. HR must takecare, however, to ensure that temporary-staffing arrangements comply withemployment and employee-benefit law. Without the structure, the financial andadministrative rewards you hoped to achieve will be swallowed in a sea ofregulatory penalties and, if you’re unlucky, enormously expensive legalliability. Just ask Microsoft.

The information contained in this article is intended to provide useful information on the topic covered, but should not be construed as legal advice or a legal opinion. Also remember that state laws may differ from the federal law.

Workforce, October 2002, pp. 50-57 -- Subscribe Now!

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