Workforce.com

Common Contractor Myths

You can't avoid risk just by complying with the IRS worker-status test.

September 18, 2003

Some savings are certain when companies replace employees with independent contractors. Employers don’t pay employment taxes to the IRS or employee benefits to their workers. But employers that buy into some common myths about independent contractors are overlooking the costly legal risks involved.

    Myth No. 1: Hiring CEOs, CFOs and officers as independent contractors rather than as employees is an acceptable, routine, legal business practice.
    Reality: While hiring corporate chief executives as independent contractors may be a common, routine and legal business practice, it carries its own legal risks for creditors, employees and shareholders. Consider the Enron case. When Enron hired Stephen Cooper as its post-meltdown CEO, his contract designated him as an independent contractor, not a full-time employee. SEC investigators knew that the independent-contractor status would limit the CEO’s fiduciary responsibility to the company and its creditors. This would have freed Cooper from fiduciary responsibility to the company and its creditors. The SEC forced Enron to change Cooper’s contract status to "full-time employee" to promote corporate responsibility.

    Myth No. 2: All independent contractors can be treated as "business associates" under the new HIPAA privacy requirements.
    Reality: Independent contractors can fall into either of two worker classifications under the new HIPAA personal health information privacy rules: business associate or workforce member. Treating all contractors as business associates without determining their proper classification can result in costly penalties for HIPAA noncompliance, ranging from $100 up to $250,000.

    Myth No. 3: Employers can avoid costly worker-misclassification risks by complying with the IRS worker-status test.
    Reality: The IRS’s worker-status test applies only when businesses have to determine worker status for employment-tax purposes. Many other federal (and state) laws govern the workforce, and each has its own test to determine worker status. For example: a 12-factor test determines whether a worker is an employee or independent contractor under ERISA; the Immigration Reform and Control Act applies a seven-factor test to determine worker status and the Fair Labor Standards Act applies an "economic realities" test, including six factors to determine whether the worker is economically dependent on the business to which the services are provided.

    Myth No. 4: An employment contract expressly stating that a worker is an independent contractor means that the worker is an independent contractor.
    Reality: In a series of recent cases, appeals courts have ignored or rejected employment contracts that expressly designated workers as independent contractors. These and other courts have considered written contracts less important than the actual working relationships, control of worker performance and other factors when worker status is at issue.

    In the landmark case Vizcaino v. Microsoft, the 9th U.S. Circuit Court of Appeals held that Microsoft’s "permatemp" workers were common-law employees despite the fact that they had signed written agreements acknowledging that they were independent contractors.