Independent Contractor Compliance Blog

SACRAMENTO-The Employment Development Department (EDD) announced this week that California’s seasonally adjusted unemployment rate was 7.3 percent in July. The non-adjusted California rate was 7.6 percent. These are 0.3 percentage point increases over June, and up 1.9 percent from one year ago. In comparison, the U.S. unemployment rate was 5.7 percent in July, up 0.2 percentage point from June, and up 1.0 percent from one year ago.

How does this affect employment tax audits and IC compliance?

The unemployment rate is climbing which means more people will be making claims for Unemployment Insurance Benefits. I’ve reported this previously, but it doesn’t hurt to repeat myself from time-to-time, that employment tax enforcement agencies get funded to a significant portion based on the number of people who file for unemployment insurance benefits. The more people who make a claim, the more money the tax agencies get to do audits. So as the unemployment rate increases so do the resources to conduct audits.

The fastest way to an audit

Another statistic is that nearly10% of unemployment insurance claims get blocked because wages can’t be verified. This is typically because the individual was working as an IC-not an employee-and the business did not withhold, report or pay taxes for the worker.

This is a major trigger for an employment tax audit, because only ex-employees are entitled to unemployment insurance benefits, so EDD is inclined to see the unreported claimant (your former IC) as misclassified. It’s a built-in bias. So whenever one of your ex-IC’s makes a claim for unemployment insurance, it’s certain your company will be looked at for a potential audit.

Typically, when economic times tighten businesses want to cut costs

One way businesses cut costs is by employing workers as independent contractors to avoid the costs associated with employees. This strategy is good if done correctly. However, in my experience, many businesses just call the worker an IC (it becomes a title) and still treat him/her as an employee. Doing this will guarantee a misclassification problem. In most cases the business wants to be legal but does not have the technical knowledge and experience to do it properly.

The two events collide

So just as times are getting difficult financially and the business decides to risk classifying workers as IC’s to cut costs, the government is gearing up its audit program, increasing the odds of getting audited-a formula for misfortune.

What I recommend

 My advice is to be sure you are correctly setting up your projects and selecting consultants who will truly qualify as independent contractors. If you don’t have the in-house skills and experience to do this, seek out a proven expert to help you do it right.