Media outlets throughout the country have recently reported that it appears there was little to no oversight to ensure contractors, which were working on projects receiving federal stimulus money, were not misclassifying their employees as independent contractors.  Contractors are motivated to misclassify their employees as independent contractors due to tax savings.  The contractors misclassify their employees as independent contractors and then do not withhold taxes on their employees’ compensation or make the required employers’ contributions.  Employees, who are misclassified, receive a 1099 Form.  A misclassified employee is then required to pay his or her entire tax obligation at one time, as there was no withholding on his or her wages and no employer contributions.

Media coverage of apparent misclassification of employees as independent contractors related to federal stimulus projects will no doubt encourage both state and federal enforcement agencies, including the U.S. Department of Labor (DOL) and the Internal Revenue Service (IRS), to increase their focus on these issues.  In addition to the DOL and IRS, the North Carolina Department of Revenue, North Carolina Industrial Commission, North Carolina Department of Labor, and North Carolina Employment Security Commission are also focused on making sure that employees are not misclassified as independent contractors.  The ramifications of misclassifying employees as independent contractors are significant.  Employers could be liable for unpaid payroll taxes, claims based on denial of employees’ participation in benefit plans, and possible out-of-pocket liability for workplace injuries due to the lack of a workers’ compensation insurance policy.

Employers should become familiar with the criteria for distinguishing between employees and independent contractors.  Employers should carefully analyze the relationships they have with individuals before labeling them as independent contractors.  Employers may even want to conduct periodic audits to ensure that they have not incorrectly misclassified an employee as an independent contractor.  When in doubt, employers should not hesitate to reach out to their employment counsel for advice and assistance in making proper classifications.