September 2014 Independent Contractor Compliance and Misclassification Update

This month’s headline developments are the crescendo of cases finding against FedEx Ground’s classification of drivers as independent contractors.  On the heels of last month’s decision by the U.S. Court of Appeals for the Ninth Circuit, which held that FedEx Ground had misclassified drivers who should have been classified as employees in California and Oregon, this month’s update includes a case decided by the NLRB and another case decided by a federal district court, both of which are adverse to FedEx’s interests.  (A fourth recent decision unfavorable to FedEx was issued in October; it was one of the subjects of our blog post earlier today, and will appear in next month’s update.)  Collectively, these cases not only are a huge setback for FedEx, but also are likely to prompt even more legal challenges by state and federal regulatory agencies and plaintiffs’ class action lawyers to the misuse of independent contractors by businesses. Companies that wish to minimize exposure to independent contractor misclassification liability may wish to examine the publishers’ White Paper on the subject.

In the Courts (6 cases)

  • TRUCK DRIVERS FOUND TO HAVE BEEN MISCLASSIFIED IN CALIFORNIA. California federal district court finds class of 300 current and former truck drivers have been misclassified as independent contractors and not employees by Shippers Transport Express, Inc. (STE), a trucking and logistics company providing land transportation services for ocean containers to and from international ports in California. Among the state law claims asserted by the drivers are failure to pay minimum wage and failure to reimburse business expenses. In granting the drivers’ motion for partial summary judgment, the Court found that STE not only retained the right to exercise control over the manner and means of the truckers’ accomplishing the desired results, but also exercised such control. Taylor v. Shippers Transport Express, Inc., CV 13-02092 BRO (PLAx) (C.D. Cal. September 30, 2014).
  • U.S. OPEN TENNIS UMPIRES ARE IC’S, NOT EMPLOYEES. A New York federal district court granted the United States Tennis Association’s motion for summary judgment, finding a class of umpires performing services at the U.S. Open to be independent contractors. In seeking to recover unpaid overtime, the umpires claimed that they should have been classified as employees under the Fair Labor Standards Act and the New York Labor Law. Applying the economic realities test under the FLSA, the court determined that the umpires were in business for themselves; were highly skilled professional umpires who exerted a high degree of control over their work; had “immense” discretion, within the parameters of the rules of tennis, to conduct their duties; invested themselves as professional umpires by pursuing additional certifications and officiating at other tournaments; controlled their own schedules; and had a short-term relationship with the USTA, even if they officiated each year. The court reached the same outcome under New York state law. Meyer v. United States Tennis Association, No. 1:11-cv-06268 (SDNY September 11, 2014 (ALC) (MHD).
  • MISCLASSIFICATION CLAIMS BY CAR SERVICE DRIVERS IN NYC DISMISSED. “Black car” drivers providing services in New York City to clients of Corporate Transportation Group have been held by a federal court to be independent contractors. The drivers had alleged violations of the FLSA and New York Labor Law, including claims for unpaid overtime. The court found that the company had limited control over the drivers; the drivers had the opportunity for profit or loss; the drivers had an investment in the business because they could rent or buy a franchise and had to buy or rent a car; the drivers needed to exercise a significant degree of independent initiative to be successful; and the drivers could terminate their contracts at will. The court reached the same conclusion under state law, finding that the drivers worked at their own convenience; were free to engage in other employment; did not receive fringe benefits; were paid as non-employees; were not on the company’s payroll; and did not have fixed schedules. Saleem v. Corporate Transportation Group, Ltd., 12-CV-8450 (SDNY September 16, 2014) (JMF).
  • FED EX DRIVERS MAY MAINTAIN LAWSUIT FOR THE VALUE OF EMPLOYEE BENEFITS. A Missouri federal district court held that ERISA does not pre-empt state law claims by FedEx drivers for the value of employee benefits they claim they would have received had they been properly classified by FedEx as employees and not independent contractors. By statute, ERISA pre-empts a state law if the claim broadly “relates to” an ERISA plan. The court noted that a state law claim “relates to” an ERISA plan if it either expressly refers to an ERISA plan or has a connection with such a plan. The court determined that the FedEx drivers’ claims did not have a connection to an ERISA plan and, therefore, the state law claims were not pre-empted. It reasoned: “These are not claims to recover benefits due under the terms of FedEx’s plans, to enforce rights under the terms of the plans or to clarify rights to future benefits under the terms of the plans. Rather, Plaintiffs seek the value of employee benefits denied them based on their misclassification as independent contractors; any damages would come from FedEx, not from the plan itself.” Gray v. FedEx Ground Package System, Inc., No. 4:06-CV-00422 (E.D. Mo. September 5, 2014) (JAR).
  • NEWSPAPER CARRIERS FOUND TO BE MISCLASSIFIED. A class of newspaper carriers for the Sacramento Bee have been found to have been employees misclassified as independent contractors. The Superior Court for the County of Sacramento based its holding on, among other things, that the newspaper had the right to (and did) exercise pervasive control of the manner and means of the performance of the carriers’ work; the carriers had little or no right to negotiate the terms of their IC agreement; the carriers received daily mail that set forth how they were to deliver the newspapers each day; and the newspaper managed, trained, and supervised the carriers. Sawin v. The McClatchy Company, No. 34-2009-00033950 (Sacramento Super. Ct. September 22, 2014) (GWW).
  • NLRB HOLDS FED EX GROUND DRIVERS ARE EMPLOYEES AND MAY BE UNIONIZED. As noted in our blog post earlier today, the NLRB held that FedEx Home Delivery drivers are employees under the National Labor Relations Act and, therefore, may be represented by the Teamsters local that had petitioned the NLRB for an election among single-route drivers in Connecticut. The majority opinion of the NLRB expressly noted that it “declined to adopt the District of Columbia Circuit’s recent holding [in another FedEx case], insofar as [the Court] treats entrepreneurial opportunity . . . as an ‘animating principle’ of the inquiry.” One member of the NLRB dissented, concluding that the D.C. Circuit’s decision should be followed by the Board. FedEx Home Delivery, an Operating Division of FedEx Ground Package Delivery Systems, 361 N.L.R.B. No. 155 (September 30, 2014).  

Regulatory and Enforcement Initiatives (5 matters)

  • U.S. DEPARTMENT OF LABOR AWARDS OVER $10 MILLION TO STATES TO CURB IC MISCLASSIFICATION. Our blog post on September 16, 2014 reported that the U.S. Department of Labor awarded $10.2 million in federal grants to 19 states including California, Delaware, Florida, Hawaii, Idaho, Indiana, Maryland, Massachusetts, New Hampshire, New Jersey, New Mexico, New York, Oregon, South Dakota, Tennessee, Texas, Utah, Vermont, and Wisconsin to implement or improve worker misclassification detection and enforcement initiatives. In a News Release dated September 15, 2014, U.S. Secretary of Labor Thomas E. Perez stated that the federal grant awards “will enhance states’ ability to detects incidents of worker misclassification and protect the integrity of state unemployment insurance trust funds.” An additional $2 million bonus was shared by Maryland, New Jersey, Texas, and Utah due to their high performance or most improved performance in detecting incidents of misclassification.
  • TECH START-UPS FACE MISCLASSIFICATION LIABILITY. A New York Magazine article highlighted the potential exposure of tech start-up companies to costly liability for their misuse of independent contractors in their business models. In our September 18, 2014 blog post entitled “Silicon Valley Misclassification: ‘New York’ Magazine Focuses on How the 1099 Economy May Be Exposing Tech Start-Up Companies to Costly Liability for Their Use of Independent Contractors,” we discuss the misclassification risks that may be present in such 1099 start-ups as TaskRabbit, Homejoy, Uber, BloomThat, Washio, and Spoonrocket. The blog post also examines whether courts can destroy the 1099 model and how private equity firms should conduct due diligence in the area of independent contractor misclassification risk – and how such investors can minimize their risks.
  • U.S. LABOR DEPARTMENT FINDS AUTO PARTS COMPANY MISCLASSIFIED OVER 200 DRIVERS. An Arizona auto parts company has been found to have misclassified its delivery drivers as independent contractors. The U.S. Department of Labor, Wage and Hour Division, reported in the Department’s Newsletter that Delivery Driver Solutions has paid 240 drivers $80,000 in back wages due to overtime violations. The drivers delivered auto parts from retailers to auto repair shops and dealerships in the Phoenix area.
  • OFCCP ISSUES INDEPENDENT CONTRACTOR TEST. The Office of Federal Contract Compliance Programs has published a list of Frequently Asked Questions on the Department of Labor website to help federal contractors in assessing whether a worker is an employee or independent contractor. The FAQs inform contractors how the OFCCP determines which workers are employees that must be included in Affirmative Action Plans under Executive Order 11246, Section 503 of the Rehabilitation Act of 1973, and the Vietnam Era Veterans’ Readjustment Assistance Act.
  • IRS FOUND BY INSPECTOR GENERAL TO HAVE FAILED TO SECURE NECESSARY INFORMATION FOR ITS VCSP PROGRAM. The Treasury Inspector General for Tax Administration (TIGTA) issued a report on September 24, 2014 finding that the Internal Revenue Service (IRS) does not obtain the information it needs to ensure that employers are eligible for, and comply with, the Voluntary Classification Settlement Program (VCSP). The VCSP had been implemented to allow employers to voluntarily reclassify workers from independent contractors to employees for federal employment tax purposes, as noted in our prior blog post on the program. In a press release issued that same day, TIGTA stated that the IRS does not require the workers’ names and social security numbers, yet without that information, the IRS cannot determine if the VCSP applicant met VCSP eligibility requirements. TIGTA made five recommendations, including that the IRS (1) require employers applying for the VCSP to provide the names and Social Security Numbers for the workers being reclassified; (2) revise internal procedures for processing VCSP applications to evaluate employer eligibility and ensure that worker compensation and the VCSP payment is accurate; (3) develop follow-up review processes to ensure compliance with the terms of agreements; (4) develop reporting capabilities to allow for a single system for both tracking inventory and monitoring program performance; and (5) revise processes to ensure that accepted agreements are successfully sent to and received by the IRS business units responsible for monitoring.

Other Noteworthy Matter

Published by Richard Reibstein, with Lisa Petkun and Andrew Rudolph. Compiled by Janet Barsky.

* * * * To receive blog posts and regular Monthly IC Compliance and Misclassification News reports, you may subscribe by e-mail or RSS to the Independent Contractor Compliance and Misclassification Legal Blog.

* * * * Invitation to upload content: Readers may contribute to this repository of newsworthy matters by sending an e-mail to ICComplianceBlog with any recent:

  • court cases commenced;
  • developments or updates in existing court cases, including any judicial decisions;
  • legislative bills proposed or enacted;
  • regulatory or administrative actions, including enforcement initiatives and task force developments; and
  • other newsworthy matters, such as newspaper articles, white papers, and government press releases and reports.
Posted in IC Compliance

FedEx Hit with Avalanche of Independent Contractor Misclassification Rulings

In the past week, the Supreme Court of Kansas and the National Labor Relations Board have issued lengthy, comprehensive opinions finding that FedEx misclassified its Home Delivery and Ground Division drivers as independent contractors as a matter of law. Those two decisions, which dealt with drivers in Kansas and Connecticut, come only a month after the U.S. Court of Appeals for the Ninth Circuit reached the same conclusion under California and Oregon law. All three decisions essentially conclude what the Kansas court found: “FedEx has established an employment relationship with its delivery drivers but dressed that relationship in independent contractor clothing.”

The Supreme Court of Kansas Decision

All three decisions are significant setbacks for FedEx. But the decision of the Supreme Court of Kansas may well be the most damaging. It was issued in response to a request by the U.S. Court of Appeals for the Seventh Circuit, which is considering appeals in dozens of state law class actions that had been consolidated and heard by a single district court judge, who had ruled in favor of FedEx in 42 lawsuits covering drivers in 27 states. The Seventh Circuit chose to first consider the class action arising under the Kansas wage payment law, but turned to the Kansas Supreme Court for guidance when it found that the law of Kansas was not crystal clear. This decision issued by the state court last Friday, October 3, 2014, may well be relied upon by the Seventh Circuit in deciding some or all of the other FedEx cases on appeal.

The Kansas Supreme Court noted in its opinion in Craig v. FedEx Ground Package System, that the test under Kansas law as to whether an individual is an employee or independent contractor is the so-called common law “right to control test,” which it defined as “whether the employer has the right of control and supervision over the work of the alleged employee, and the right to direct the manner in which the work is to be performed, as well as the result which is to be accomplished.” The Court noted that this test differs somewhat from the “economic realities” test under the federal wage and hour law. Under the federal test, the determination of an individual’s status focuses more on whether, as a matter of economic reality, a worker is dependent on a given employer. Because the “right to control” test is generally regarded as more favorable to a finding of independent contractor status, the Court’s decision that FedEx misclassified its drivers leads to the conclusion that the company is even less likely to prevail in those states that use the “economic realities” test.

In reaching its decision, the Kansas Supreme Court set forth 20 factors that Kansas considers when making a determination of independent contractor status. (This is not the same 20-factor test as used by the IRS, but is similar.) The Court then examined all 20 factors in depth. Among the factors that the Court concluded were those favoring employee status were the following:

  • FedEx issued instructions and required compliance therewith.
  • The services of the drivers were an integral part of FedEx’s business.
  • There was a continuing relationship between the drivers and FedEx.
  • FedEx requires written reports about deliveries.
  • The drivers’ ability to earn a profit is constrained by FedEx’s controls.
  • As a matter of reality and practicality, drivers cannot work for more than one company at a time.
  • The drivers’ services are not regularly made available to the public.
  • The drivers may unilaterally terminate their relationship with FedEx at any time without financial repercussion.

In its decision, the Kansas Supreme Court noted that this is a “close case” and, indeed, it found that at least five or six of the 20 factors favored independent contractor status (and the remaining factors were neutral). But, the significance of those factors, according to the Court, were undermined by “FedEx’s control and micromanaging” of the drivers.

The Kansas Court concluded its decision with a body blow to FedEx. The Seventh Circuit not only asked the Supreme Court of Kansas if single-route drivers were employees under the Kansas wage payment law, but also whether drivers who “acquire more than one service area from FedEx” are also employees. This question is potentially critical for FedEx because, in or about 2010, it initiated a new business model intended to comply with independent contractor laws. That business model, described in our August 12, 2010 blog post, gave its single-route drivers three options for continuing to work with FedEx on a going-forward basis: (a) become a multi-route Independent Service Provider (ISP) by incorporating as a business, (b) become an employee driver of an approved FedEx Ground ISP (that is, become a driver for another driver that has set up a business as an ISP); or (c) terminate his or her relationship with FedEx Ground at the expiration of its current independent contractor agreement, which would not be renewed. The Kansas Supreme Court concluded that “the employer/employee relationship between FedEx and a full-time delivery driver . . . is not terminated or altered when the driver acquires an additional route for which he or she is not the driver.”

The NLRB Decision

The decision by the NLRB in FedEx Home Delivery, an Operating Division of FedEx Ground Package Systems was issued September 30, 2014. It addresses the independent contractor status of FedEx Home Delivery drivers in Connecticut, who are being petitioned to be represented by a Teamsters Union.

The key issue in the case involves the entrepreneurial opportunities for drivers to earn a profit by having the right to operate two or more FedEx routes. The majority opinion of the Board held that entrepreneurial opportunity is one of many factors to be considered in determining independent contractor status. In contrast, a dissenting Board member viewed this factor as one warranting the same special emphasis that was given to this factor by the U.S. Court of Appeals for the District of Columbia in its 2009 decision dealing with FedEx Home Delivery drivers in Massachusetts. In that case, the D.C. Circuit concluded that the Massachusetts drivers were independent contractors and, therefore, not capable of being unionized by a union.

The majority opinion of the Board expressly noted that it “decline[s] to adopt the District of Columbia Circuit’s recent holding, insofar as it treats entrepreneurial opportunity . . . as an ‘animating principle’ of the inquiry.” Further, the Board majority states, it should give weight to “actual, not merely theoretical, entrepreneurial opportunity” and should evaluate any constraints placed on drivers who wish to pursue this opportunity. What exactly does this all mean?

In reaching its decision, the Board majority said it would not be taking into account the fact that six drivers had operated multiple routes that offered them the opportunity to earn a profit by hiring other drivers to operate one or more routes besides the one that they handled themselves. Why? Because the Teamsters local who sought to represent the drivers excluded all multiple route drivers from the unit of drivers it sought to represent. As the Board majority states, “Evidence that goes only to employees who are outside of the petitioned-for unit is unlikely to have probative effect.” In effect, the Board majority has, according to the dissenting Board member, “determined that little weight be assigned to the entrepreneurial opportunity factor.”

As former NLRB member Ronald Meisburg has suggested, this decision by the NLRB could lead to another show-down between the NLRB and the one federal court of appeals with nationwide jurisdiction to review NLRB decisions.

The Ninth Circuit’s Decision

In our August 29, 2014 blog post, we discussed the Ninth Circuit’s decisions issued two days earlier, which held that FedEx’s standard independent contractor agreement and its nationwide policies and procedures established that single-route FedEx drivers in California and Oregon were employees and not independent contractors. We noted that despite the fact that FedEx lacks control over some parts of its drivers’ jobs, the Court concluded that such lack of control is not sufficient to “counteract the extensive control [FedEx] does exercise.”

Analysis and Takeaways

Both the Kansas and Ninth Circuit decisions relied on the independent contractor agreement, which FedEx drafted and used with all its Ground Division drivers, as the principal evidence finding misclassification. The Kansas Supreme Court was not particularly soothing in its critique of the contract, noting that it agreed with a California appellate court that FedEx’s independent contractor agreement is a “‘brilliantly drafted contract creating the constraints of an employment relationship with [the drivers] in the guise of an independent contractor model—because FedEx not only has the right to control, but has close to absolute actual control over [the drivers] based upon interpretation and obfuscation.'”

These decisions remind businesses that use independent contractors that the form of their agreements is little protection if either (a) the document gives a right to independent contractors with one hand, and then takes it away with the other; or (b) the contract does not accurately represent the parties’ practice. These decisions confirm that the best protection for businesses using independent contractors is to structure, document, and implement the independent contractor relationship in a manner that is consistent with the laws in the states in which the business operates. The law in California, Oregon, Kansas, and most other states all vary considerably, yet have a common thread: the less direction and control over the individuals in question, the better.

That is one of the hallmarks of IC Diagnostics™, a proprietary process that examines whether a group of workers would pass the applicable tests for independent contractor (IC) status under governing state and federal laws, and then offers a number of practical, alternative solutions to enhance compliance with those laws. For existing businesses, those alternatives include restructuring, reclassification, or redistribution, as more fully described in our White Paper.

For those businesses that can, consistent with applicable laws, retain their independent contractor relationships without undue exposure to misclassification liability, IC Diagnostics™ affords them a way to restructure, re-document, and re-implement those relationships in a manner that enhances IC compliance and minimizes misclassification exposure. Not every business can restructure in a manner that complies with applicable laws, but most can – and should, not only to avoid the types of misclassification liability that FedEx Ground is now facing after these recent court decisions, but also to avoid the prospects of unionization if they wish to remain union-free.

Published by Richard Reibstein, with Lisa Petkun and Andrew Rudolph.

Posted in IC Compliance

New California Law Imposes Costly Risks to Companies Using Independent Contractors Supplied by Staffing and Recruiting Firms – But Risks Can Be Minimized

On September 28, 2014, Governor Jerry Brown of California signed a bill that puts a potentially enormous liability risk on companies that use workers supplied by “labor contractors” that fail to pay all wages due the workers. Assembly Bill 1897 requires client employers to “share with a labor contractor all civil legal responsibility and civil liability for all workers supplied by that labor contractor for . . . the payment of wages and failure to secure workers’ compensation coverage . . . .”

There are three important exclusions: First, the new law covers “workers provided to perform labor within [the client company’s] usual course of business from a labor contractor.” Businesses with a workforce of less than 25 workers (including the number of workers provided by labor contractors) and businesses with five or fewer workers supplied by labor contractors are not covered.

Second, the law defines “worker” to exclude those who are exempt from payment of overtime as executive, administrative, or professional employees.

Third, the statute also specifically excludes bona fide “independent contractors” supplied by a labor contractor. However, non-exempt employees who are found to have been misclassified by the labor contractor as independent contractors are covered by the new law when provided to a client company.

The new law raises a number of questions, which we will answer below.

What does this mean for client companies in California that use staffing, recruiting, and other firms to supply them with more than five contract workers that are being paid on a 1099 basis?

Client companies that are prudent will now need to ask whether the labor contractor is treating the workers as independent contractors or employees (i.e., paying them on a 1099 or a W-2 basis) and then determine, for all workers who are being 1099’d, whether the labor contractor has properly classified them as independent contractors. This new law, therefore, is likely to propel client companies to insist that any labor contractors that provide them with contract labor have properly classified as independent contractors any workers who are being treated as 1099ers. This blog post discusses in the “Takeaways” (below) how client companies can do so effectively.

What does this mean for staffing, recruiting and other companies that provide contract labor to clients in California?

This new law puts a premium on labor contractors (i.e., firms that supply individuals to perform work for client companies) to make sure that all workers who are being paid on a 1099 basis are genuine independent contractors under California law. Otherwise, their clients will likely begin to choose competitors of theirs who are more independent contractor compliant. We discuss below in the “Takeaways” an effective means for companies, which supply 1099ers to client companies, to enhance their level of independent contractor compliance.

Does the new law include any definitions of independent contractor?

No. The law expressly notes that it does not change the definition of independent contractor under state law. As noted in a prior blog post on October 12, 2011, California enacted an independent contractor misclassification law prohibiting willful misclassification, but that law likewise does not provide a definition of who is an employee and who is an independent contractor.  California, like many states, uses a modified form of the general common law definition of “employee.”  California’s test is sometimes referred to as the “economic realities” standard, which is similar (but not identical) to the “economic realities” test used in cases arising under the Fair Labor Standards Act (the federal wage and hour law).  Although the economic realities test under California law has a similar starting point as the classic common law test  (“the principal test of an employment relationship [in California] is whether the person to whom service is rendered has the right to control the manner and means of accomplishing the result desired . . . ”), the courts in California and the California Labor and Workforce Development Agency give different weight to certain factors than do courts applying the classic common law test for independent contractor status.

While both the economic realities and classic common law tests have a number of factors to be taken into account in determining whether a worker is an employee or independent contractor – for example, the IRS maintained for years its oft-quoted “20 factor test” and the California Labor and Workforce Development Agency lists 11 factors on its website describing the “economic realities” standard – the courts applying these tests have almost universally held that no one factor is determinative under these definitions of “employee.”  Thus, because these tests are fact-specific, they can be subject to some confusion, which can result in a number of workers falling into the proverbial “gray area” between employee and independent contractor.

What workers are treated as exempt from overtime and are therefore excluded from this law?

The new law defines “worker” as excluding an “employee who is exempt from the payment of an overtime rate of compensation for executive, administrative, and professional employees pursuant to wage orders by the [California] Industrial Welfare Commission described in Section 515 [of the California Labor Code].”  Thus, the new law appears to impose shared liability for wages and workers’ compensation obligations on client companies only with respect to non-exempt employees provided by labor contractors.  Notably, one of the wage orders described in Section 515 includes, under the “Professional Exemption,” an employee in the computer software field who is paid on an hourly basis if a number of specific criteria are met; such computer software workers therefore appear to be outside the coverage of this new law.  This is important in a state such as California, where there is a heightened need for systems analysts, software designers and engineers, computer programmers, and the like. Our recent call with a government official knowledgeable about the new law indicates that it likely excludes such workers.

Are all companies that supply a client with workers considered “labor contractors” under this new law?

No. The term “labor contractor” is defined as an individual or entity that supplies a “client employer” with workers to perform labor “within the client employer’s usual course of business.” The term “usual course of business” means the regular and customary work of a business, performed at the premises or worksite of the client employer.

The term “labor contractor” specifically excludes (a) a bona fide non-profit, community-based organization that provides services to workers; (b) a bona fide labor organization (union) or apprenticeship program or hiring hall operated pursuant to a collective bargaining agreement; (c) a motion picture payroll services company; and (d) a third party to an employee leasing arrangement if the arrangement contractually obligates the client employer to assume all civil legal responsibility and civil liability under this new law.

Does the “payment of wages” for which a client employer may be liable include payroll and unemployment taxes?

Yes. The term “wages” is defined to include all sums payable to an employee or to the state based on the failure to pay wages. It would therefore appear to cover state unemployment taxes and may also cover the withholding of state income taxes in California.

Can a client employer shift its legal duties or liabilities to the labor contractor by contract; if not, can a client employer or labor contractor agree by contract to an indemnification provision?

By law, the shared wage and workers’ compensation responsibilities and obligations imposed on a client employer under the law may not be “shifted” by contract or in any other manner to the labor contractor. In other words, a client company cannot prevent itself from being sued and having a judgment against it.  However, the law expressly permits the parties to enter into contracts with indemnification provisions between them, whereby one party will become liable to reimburse the other party for their respective liabilities under the new law.

May a worker who has been denied payment of all lawful wages file a lawsuit against the client employer?

Yes, but the worker must provide the client employer at least 30 days’ notice prior to filing any such lawsuit.

What other rights does a worker have under this new law?

Like most labor and employment laws, the new law also protects workers from any retaliatory action by a labor contractor or a client employer for filing a lawsuit or giving notice of a violation to the client employer.

Does this new law have any effect on any of the types of claims or theories of liability that workers have asserted for independent contractor misclassification?

No. The law provides that the imposition of shared liability upon a client employer adds another form of relief for misclassified workers.  The law also provides that the rights, remedies, and obligations in the new law “are in addition to, and shall be supplemental of, any other theories of liability or requirements established by statute or common law.”

Takeaways

Staffing, recruiting, and other contract labor firms that provide workers to client companies sometimes pay the workers on a 1099 basis and sometimes on a W-2 basis.  Where the workers are paid on a 1099 basis, they are not typically paid for any overtime, not typically provided with any benefits, and typically are required to pay for their own expenses.  If properly classified as independent contractors, this treatment is permissible.  Likewise, those who retain properly classified independent contractors are not required to withhold taxes, have no payroll tax liability for such workers, and are not obligated to provide unemployment or workers’ compensation coverage.

How do client companies know whether the labor contractor has properly classified  contract workers as independent contractors?  And what can a client company do to best protect itself from this new form of “shared” liability under California law? 

One means for client companies to assure themselves that the labor contractor maintains an enhanced level of independent contractor compliance is through the use of IC Diagnostics™, a proprietary system designed to measure compliance with IC laws and provide tools to minimize IC misclassification liability.  While IC Diagnostics™ is principally designed for use by businesses that retain ICs directly, the same tools can be effective for a client company in measuring a labor contractor’s level of IC compliance.

Oftentimes, even a quick review of a labor contractor’s IC agreement will reveal the general level of its IC compliance, determined in accordance with the applicable state and federal laws.  Labor contractors that use 1099ers to furnish services to client companies should be favored if their IC relationships, both by contract and in actual practice, reflect a heightened level of IC compliance.  Those labor contractors that have a diminished level of IC compliance should be disfavored by client companies, especially in California, given the enactment of the new law.

Almost all IC relationships can be enhanced to a considerable degree.  Therefore, client companies can insist that their labor contractors enhance their level of IC compliance if they wish to continue to do business with the client.  Client companies can also demand indemnification provisions in their agreements with labor contractors; however, indemnification clauses cannot alone minimize the likelihood that the client company will be sued for shared wage and workers’ compensation liability if the labor contractor has been misclassifying its workers as ICs.  The combination of improved IC compliance by the labor contractor and insistence on a suitable indemnification provision is a prudent approach for client companies to avoid exposure to this new liability under California law.

How can labor contractors that provide 1099ers to client companies enhance their level of IC compliance and gain a competitive advantage in California over those firms that are not IC-compliant?

Labor contractors can use IC Diagnostics™ to obtain a competitive edge over other labor contractors if they use that process to heighten their level of IC compliance in comparison to their competitors.  Enhancements in IC compliance can be achieved by the use of informed restructuring, re-documentation, and/or re-implementing of the IC relationships with the labor contractor’s 1099ers, using state-of-the-art tools.

Ideally, such IC enhancements are accomplished before a client company demands them as a condition of continuing its relationship with the labor contractor.  Such firms can also use their heightened level of compliance as a client retention tool with existing client companies, a marketing tool with potential new clients, and of course a means to reduce their own potential for IC misclassification liability.

Richard Reibstein, Lisa Petkun, Andrew Rudolph, Jeffrey M. Goldman

Posted in IC Compliance

Silicon Valley Misclassification: ‘New York’ Magazine Focuses on How the 1099 Economy May Be Exposing Tech Start-Up Companies to Costly Liability for Their Use of Independent Contractors

Today’s online edition of New York Magazine’s “Daily Intelligencer” includes a comprehensive article on how Silicon Valley start-up tech companies using “the 1099 model” may be exposed to employment, tax, and benefit law liabilities that could drive them out of business or cause them to change to a W-2 model. Kevin Roose’s fine article is entitled “Does Silicon Valley Have a Contract-Worker Problem?”

Roose predicts that venture capital funding sources that have invested in 1099-model start-ups may not have anticipated their potential exposure to the types of class action lawsuits where the contract workers allege that they are not really independent contractors but actually misclassified employees. The article examines companies that use the 1099 model – such as TaskRabbit (errand service), Homejoy (house cleaning), Uber (car service), BloomThat (flower delivery), Washio (laundry services), and Spoonrocket (meal delivery) – and concludes that “If their [freelance 1099ers] are classified as employees then that suddenly makes their business model untenable.”

Three things seem to have prompted the article. The first was Roose’s hiring of a house cleaner through a San Francisco start-up called Homejoy, which was offering home cleanings in the Bay Area for $19. As Roose noted, that was not $19 per hour or $19 per room, but $19 for his entire home. Striking up a conversation with the cleaner, he found out that the worker was homeless and, to Roose’s surprise, was not an employee of Homejoy but an independent contractor referred to Roose by Homejoy. The second event was Roose learning that a federal appellate court had just ruled that FedEx Ground had misclassified 2,300 drivers in California that it had treated as independent contractors. The third was Roose hearing that Uber had been sued in Massachusetts and California in a class action lawsuit alleging that they were being misclassified as independent contractors. Roose asks: “Could courts destroy the 1099 model?” The answer to that question is below, but first we address investments by private equity firms in companies that use a business model built around independent contractors.

Hidden Due Diligence Risks

In our blog post in January 2013 entitled “Hidden Due Diligence Risk in Mergers, Acquisitions and Investments: Independent Contractor Misclassification Oftentimes Overlooked by Private Equity Firms, Hedge Funds and Other Investors,” which was republished in the American Bar Association’s January 23, 2013 Business Law Today, we observed that many due diligence reviews in mergers, acquisitions, and investments have ignored the issue of independent contractor misclassification liability, noting:

“This is a difficult exposure to identify unless the legal team digs below the information typically provided by the seller or available in public records. In view of the crackdown by federal and state governments on the misclassification of employees as ICs, an increase in state misclassification legislation, and a steady stream of class action lawsuits claiming that certain workers have been disguised as ICs, due diligence efforts should not overlook this often hidden exposure.” The article discusses what private equity firms should examine during due diligence, how to determine exposure to independent contractor misclassification liability, and the use of post-closing due diligence to minimize or eliminate this type of legal exposure.

“Could Courts Destroy the 1099 Model?”

The answer to Roose’s question is, yes – but only if the tech companies that use that model do not take care to structure, document, and implement their independent contractor relationships in a manner consistent with federal and state independent contractor laws, provided the business model, once properly designed and implemented, is not built on directing and controlling the manner by which the 1099ers perform their work. Appellate courts such as the one that recently doused FedEx focused on the independent contractor agreement drafted by FedEx as well as FedEx Ground’s own policies to conclude that, although FedEx arguably lacks control over some parts of its drivers’ jobs, such lack of control over certain parts of the drivers’ roles is not sufficient to “counteract the extensive control it does exercise” including the right to control the appearance of its drivers, its vehicles, the times the drivers can work, aspects of how and when drivers must deliver packages, and the decorum by which the drivers must conduct themselves.

In our August 29, 2014 blog post on that case entitled “Earthquake in the Independent Contractor Misclassification Field,” we concluded that FedEx Ground lost before the court in California because of a misplaced reliance on an independent contractor agreement and its policies and procedures that were good, but by no means good enough.  Plainly, although FedEx is a savvy company, close scrutiny by a court found one fallacy after another in the very documents FedEx created – sufficient in degree to lead the court to rule against FedEx. As we noted, “IC agreements and policies and procedures that are not drafted in a state-of-the-art manner, free from language that can be used against the company, can cause businesses that use ICs to face class action litigation or regulatory audits or enforcement proceedings they may be able to otherwise avoid.”

This is not to say that every 1099 business model can be sustained under close scrutiny by the courts simply because its independent contractor agreement reads like a dream. Even a well-drafted independent contractor agreement has no legal value if it does not accurately reflect the actual structure of the relationship and is not implemented in a state-of-the-art manner, and the courts have regularly stated that they are not bound by what is stated on paper if it is not what is put into practice.  Further, even when well structured, elegantly documented, and carefully implemented independent contractor relationships survive legal scrutiny under federal labor, tax, or benefit laws, they may not pass muster under what we have referred to as a crazy-quilt of state independent contractor laws.

What Can Investors and Tech Companies Do to Minimize IC Misclassification Liability?

Many new and existing companies have resorted to IC Diagnostics™ to enhance their level of independent contractor compliance and determine whether a group of workers not being treated as employees would pass the applicable tests for independent contractor status under governing state and federal law.  That proprietary process also offers a number of practical, alternative solutions to enhance compliance with those laws, including restructuring, reclassifying, and redistributing 1099ers, as more fully described in our White Paper on the subject.

All too often – and not surprisingly – many start-ups seek out infusions of capital before they have taken the time and energy to examine legal compliance issues that may be activated by operation of their new businesses. Other times new businesses (and for that matter, many established businesses, like FedEx Ground) simply fail to document and/or implement their 1099 models in a manner that minimizes independent contractor misclassification liability.  And, as noted in our due diligence post and article, private equity firms and investors do not conduct the level of due diligence they should. Roose’s article is a good reminder that not all start-ups (as well as existing businesses) are investment grade, but the overwhelming number can be if time and resources are invested in independent contractor compliance as well.

Richard Reibstein (NYC), Lisa Petkun and Andrew Rudolph (Philadelphia), with Greg Bishop, Andy Chan, and Tom Fitzpatrick (Silicon Valley)

Posted in IC Compliance

U.S. Labor Department Awards $10.2 Million to 19 States to Help Finance Their Crackdown on Independent Contractor Misclassification; Four States Get “Bonus” Awards for Improved Detection Results

The news from Washington, D.C. yesterday is that the U.S. Department of Labor is funding 19 states’ efforts to crack down on businesses that unwittingly or intentionally fail to make unemployment contributions for individuals misclassified as independent contractors. While class actions in court continue to receive the most attention, unemployment proceedings continue to plague many businesses that use independent contractors to supplement their workforce or carry out their business objectives – and the Obama Administration, supported by Congressional funding, is keeping its headlights focused on unemployment challenges to detect and deter independent contractor misclassification.

Labor Secretary Thomas Perez issued a press release on September 15, 2014 that carried out the Obama Administration’s continuing efforts to crack down on independent contractor misclassification. As noted in our March 4, 2014 blog post, the President has maintained his Administration’s commitment to “[i]ncreasing support for [state] agencies that protect workers’ wages and overtime pay, benefits, health and safety, and invest in preventing and detecting the misclassification of employees as independent contractors.”  To that end, Congress passed the Consolidated Appropriations Act of 2014 authorizing grant funding of no less than $10 million for “activities to address the misclassification of workers.”

Which States Received Grants?

The 19 states that received grants totaling $10.2 million were California, Delaware, Florida, Hawaii, Idaho, Indiana, Maryland, Massachusetts, New Hampshire, New Jersey, New Mexico, New York, Oregon, South Dakota, Tennessee, Texas, Utah, Vermont, and Wisconsin. According to the press release, the funds will be used to increase the ability of state unemployment insurance tax programs to identify instances where employers improperly classify employees as independent contractors or fail to report the wages paid to workers. The states selected for grants will reportedly use the funds for a variety of improvements and initiatives, including enhancing employer audit programs and conducting employer education initiatives.

Four states received “high-performance bonuses” totaling over $2 million: Maryland, New Jersey, Texas, and Utah. According to Secretary Perez, this innovative program rewards states with additional grant funds “due to their high performance or most improved performance in detecting incidents of worker misclassification.”

What Does This Mean to Businesses Using Independent Contractors?

In February 2013, we published a blog post that focused on how a single claim by one worker can lead to the administrative equivalent of a class action for independent contractor misclassification. Any business using independent contractors to supplement its workforce or to carry out its business model bears the risk that one or more individuals it classifies as 1099ers will file for unemployment benefits or that a state where one of those 1099ers resides will commence an audit of its unemployment and payroll taxes.

Use of independent contractors remains a highly risky business for those companies that do little more than hand those individuals an independent contractor agreement when they commence providing services and a Form 1099 shortly after year’s end. Even large and legally savvy companies have tripped over their own feet in the past few years, most notably FedEx Ground, which was the subject of an adverse federal appellate ruling only last month where it was found to have misclassified its drivers as independent contractors.  As noted in an earlier blog post, that courier company’s IC agreement was used against the company by the appellate court to conclude that FedEx sufficiently directed and controlled the work by its Ground Division drivers to turn them into employees.

The likelihood that these types of agreements will survive judicial or administrative scrutiny is low – unless the business takes affirmative and comprehensive steps to structure, document, and implement an independent contractor relationship in a state-of-the-art manner that not only serves the company’s business objectives but also can withstand a challenge under one of the many federal or state laws governing independent contractor status. While some independent contractor relationships may comply with federal tax or employee benefit laws, they may stand little chance of complying with a crazy quilt of state laws, which can differ greatly from state to state.

Many companies have begun to use IC Diagnostics™ to restructure, re-document, and re-implement their independent contractor relationships before they receive a summons for a class action lawsuit, a notice for a federal or state administrative audit, or an inquiry from the local unemployment office about an individual who is seeking benefits.  Both an audit and an unemployment claim can lead to the equivalent of an administrative class action, where an unemployment agency finds a single individual to be an employee instead of an independent contractor and orders the business to remit contributions for the employee “and all similarly situated employees.”  These proceedings can, in turn, lead to follow-up regulatory challenges by state workers’ compensation agencies, state tax commissioners, state wage and hour divisions, and of course the IRS and the U.S. Department of Labor – or a plaintiffs’ class action lawyer seeking an array of damages.

As described in our White Paper describing ways that companies can minimize the risks of misclassification liability, there are a number of alternatives that businesses can consider, including re-structuring, re-documenting, and re-implementing their business models, embarking on a voluntary or government-sponsored reclassification, or redistributing independent contractors through the use of a knowledgeable workforce management or staffing firm.

Increasingly, businesses are also making use of IC Diagnostics™ after they have received a summons, audit notice, or unemployment inquiry.  While pro-active steps are far more likely to produce positive results, a belated start to enhancing independent contractor compliance can serve to considerably mitigate legal exposure and substantially reduce or eliminate risks going forward.

Richard Reibstein, Lisa Petkun, Andrew Rudolph

Posted in IC Compliance