Independent Contractors Under the Microscope: IRS and DOL Increase Scrutiny

The United States Department of Labor (“US DOL”) is increasing scrutiny on employers who classify certain individuals as independent contractors through a partnership with the Internal Revenue Service (“IRS”). Secretary of Labor Hilda L. Solis stated that “the issue of misclassification is key” to securing benefits for middle class workers, including minimum wage and overtime benefits. See Press Release, US DOL, Statement of Secretary of Labor Hilda L. Solis on Introduction of Legislation Regarding Issue of Misclassification (April 22, 2010). Employers should be aware that certain government agencies will now be able to share information about classification issues, and in anticipation of this, should review their classification of any workers as independent contractors to prevent any misclassification claims.

Preventing Misclassification: A Partnership Between US DOL and the IRS
In order to achieve its goal to prevent misclassification of employees, the US DOL entered into a Memorandum of Understanding (“MOU”) with the Internal Revenue Service on September 19, 2011. A copy of the MOU is available here. The stated purposes of the MOU are to reduce the “tax gap” caused by misclassification of employees (i.e., the failure of employers to pay taxes on wages of improperly classified independent contractors), increase compliance with federal labor laws, and to reduce misclassification of employees as independent contractors as a scheme to avoid taxes.

The MOU allows the US DOL to share information and coordinate law enforcement with the IRS. In particular, the US DOL has the discretion to give the IRS investigation information that the US DOL believes may raise employment tax compliance issues related to misclassification. The IRS also has the discretion in certain situations to give the US DOL information which may constitute a violation of the laws the US DOL enforces.
A total of thirteen state departments of labor have signed an agreement similar to the MOU pledging to exchange information related to misclassification issues. These states include Connecticut, Hawaii, Illinois, Maryland, Massachusetts, Minnesota, Missouri, Montana, Utah, Washington, California, Colorado, and Louisiana.

What Increased Scrutiny Means for Employers
Employee misclassification has an impact on most employers. Employers who misclassify employees may face audits for unpaid minimum wage and overtime benefits, failure to pay workers’ compensation insurance, or failure to pay employment taxes. On the other hand, employers who do not misclassify employees may be negatively impacted by the fact that other employers can spend less on labor by classifying workers as independent contractors, thereby driving down the price of goods and services and making it hard for the “good” employer to be competitive.

Employers can expect that the US DOL, IRS, and the Minnesota Department of Labor will be collecting information related to the classification of workers at an employer, and that this information may be passed to other agencies for enforcement. This means that one audit can open the door to another audit by another agency. Employers should revisit the basis for classifying any workers as independent contractors. Certain employers with a large workforce consisting of independent contractors should seriously consider a private audit to identify and prevent any misclassification problems in anticipation of an audit by any of these agencies.

If your company utilizes independent contractors or wishes to conduct an internal audit of its independent contractor classification system, contact any of the Trepanier MacGillis Battina P.A. employment law attorneys.
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Minneapolis employment attorney Craig W. Trepanier practices extensively in the area of employment law and . Craig may be reached at 612.455.0502 or craig@trepanierlaw.com. Trepanier MacGillis Battina P.A. is a Minneapolis employment law firm located in Minneapolis, Minnesota.