Independent Contractor Compliance Blog

Clients have expressed confusion and frustration due to the apparent conflicts in applying common law for employee versus independent contractor. These differences are found between almost every enforcement agency-federal and state. The IRS has its legacy 20 Questions and the newer Three Elements of Law. Each state uses either the ABC Test or their own version of common law. When the same facts are applied the results can be different with each agency. It’s possible for the same individual to be held an Independent Contractor (IC) by one agency and an employee by another. If you throw in workman’s compensation, wage and hour, or other labor laws, it becomes even more confusing.

Why is this?

The short answer: 

Because each agency has developed detailed criteria independently of the others; but perhaps more importantly, each agency has a different purpose and application for the verdict of employee or IC.

The explanation:

There isn’t enough time and space for a blog article to fully compare all the different agencies and explain why each one seems to be different from the others. However, a few examples will give you some insight about this issue.

How it developed:

The IRS’ program is reasonably consistent nationwide and has developed its case law on a national level, so naturally there have been some differences. An example of this is the EDD’s case law which was developed primarily in California. Other programs, such as workman’s compensation, were also developed locally through a series of court decisions dealing exclusively with labor law issues. 

The case law of one program rarely applies to other programs until they meet at the highest levels in the court system. Even then, judges have taken note of the purpose of the program in deciding when an individual has crossed over the line from Independent Contractor to employee.

Purpose of the programs: 

The IRS’s primary mission is to collect revenue-not to run a social program. So the IRS is biased towards collecting the money that is clearly owed. IC’s who properly file income tax returns, reporting all of their income and paying their self employment taxes are contributing to the revenue base. Therefore, the federal government isn’t really out much money even if they are misclassified (excluding the gratuitous expenses they claim on the Schedule C and deductions for contributions to private retirement plans denied to employee workers). So being more flexible on the employee versus IC issue isn’t too much of a hardship for the IRS and keeps the taxpayers happy as well. That doesn’t mean they won’t issue a large assessment if they decide you have misclassified workers. It means they can be a little more flexible on the issue.

The EDD’s primary mission is to provide unemployment benefits for the unemployed. It’s primarily a social program. Only ex-employees are entitled to unemployment benefits. The EDD would rather err on the side of helping the unemployed individual obtain benefits. Thus there is a bias to classify an individual to be an employee on the chance they may need unemployment benefits in the future.

Workman’s compensation insurance exists to help pay medical costs and lost salary for someone who was injured on the job. This is a pure social program and as such is typically more flexible, or liberal, in applying common law. The program is biased towards the employee, so workers are granted benefits.

The bar moves up or down.

Because of the different purposes the standard will be higher or lower to fulfill the goals of each program. For example, the unemployment insurance threshold to make someone an employee is higher than workman’s comp, so it is possible to have someone classified as an IC by the EDD and an employee by the Department of Industrial Relations for workman’s comp. The IRS is generally similar to EDD, with occasional exceptions (see footnote below).

How strictly common law is applied depends on the purpose of the program and what the consequences are to the individual and to society.

Footnotes:  The ABC Test is actually a simplified, and codified, common law test.

The IRS and EDD aren’t that different on the topic of employee versus Independent Contractor. The 20 Question and the newer Three Elements of Law are actually just different ways to explain common law. In fact, in California, the IRS and EDD give joint seminars on the topic. IRS and EDD presenters have actually stood in front of taxpayers, side-by-side, and explained common law together. The reason they are able to do this is because they are both using substantially the same guidelines. Thought they have different ways of presenting the information.

Warning:  These joint seminars are not as interesting or informative as my Executive Briefing seminars!  Bring lots of coffee or other stay-awake remedies should you decide to go to theirs.