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New California Tough Rules for Misclassifying Workers as Independent Contractors

By Robert S. Schriebman, SJD

California Governor Brown has signed into law two very tough pieces of legislation designed to bring to a halt the reckless misclassification of ordinary common-law workers as independent contractors. The new law takes effect on January 1, 2012. The new provisions are contained in the Labor Code and not the Unemployment Insurance Code. Whether or not the California Employment Development Department (EDD) will charge violators with these new code sections remains to be seen.

The new code sections are Labor Code § 226.8 and § 2753. Do yourself a favor, go on the internet and download these two sections. Read them very carefully. They are "equal opportunity terrors" for employers seeking to save money by not paying federal and state payroll taxes. While the IRS has recently enacted a sort of amnesty program with its new Worker Classification Settlement Program, the State of California has moved in the exact opposite direction to create tough new laws for employers and for those professionals advising those employers.

Labor Code § 226.8 provides that it is unlawful for any employers to willfully misclassify workers as independent contractors. Tough new civil penalties, ranging from $5,000 to $25,000, will be assessed for each violation. These new penalties will be assessed in addition to the already substantial amount of other penalties that are assessed by the Labor Board and the EDD. It is unclear whether "one violation" refers one investigation or whether the new penalty is assessed on a worker-by-worker basis. In other words, an employer who violates the law and misclassifies ten workers as independent contractors may have additional penalties ranging from $50,000 to $250,000!

In addition to stiff monetary fines, the new law strikes terror for general contractors hiring unlicensed subcontractors as independent contractors. Any licensed contractor who violates the law must be reported to the California State Contractors' License Board. The Board must initiate disciplinary action against the contractor. In addition to these sanctions, a contractor found guilty must post a notice on its website stating that it has committed a violation of the law.

New Labor Code § 2753 strikes terror into the heart of professionals who advise an employer to misclassify workers. A CPA, attorney, Enrolled Agent, faces great exposure. An advisor may be held jointly and severally liable with the employer if the misclassified worker is found not to be an independent contractor. New Labor Code § 2753(b)(2) specifically imposes this liability on attorneys licensed to practice law not only in California, but anywhere in the United States. So, if you are an attorney licensed to practice law in Florida, giving advice to an employer doing business in California, The statute an reach out and touch you.

From my experience in handling many EDD matters over the years, I can state that the EDD, when it conducts an audit, will rarely conclude that a worker is an independent contractor. Most EDD auditors are trained to find misclassified workers to be employees if there is any question of doubt whatsoever.

We have been in very difficult economic times continuously since 2008. Unfortunately, there are too many employers who are struggling to make ends meet. When cash flow is slow it is a challenge to meet a payroll. Many employers feel that to be competitive they can not afford to pay out their share of state and federal employment taxes. Unfortunately, they are blinded by the dollar. They get on the internet and find what they perceive to be salvation by not paying payroll taxes and treating ordinary workers as independent contractors. In the short run, they may get away with it. That is until a discharged worker makes a claim for unemployment benefits with the EDD. The worker discloses to the EDD how his or her former employer made them independent contractors. The boss even made them sign a written independent contractor agreement as a condition to their employment. This is music to the ears of the EDD. The worker will receive unemployment benefits and the EDD now has a new target for assessments of taxes, penalties, and interest.

In 2012, we will learn whether the EDD will include Labor Code § 226.8 and § 2753 in its arsenal of penalties. It is going to be an interesting year.

© Copyright 2011. No part of this article may be taken and used in any way whatsoever without the express written consent of Robert S. Schriebman

Robert Schriebman has written over 20 books including the major manual used nationally by practitioners and the IRS, "IRS Tax Collection Procedures - A Manual for Practitioners" published by Commerce Clearing House in addition to the only 2 books ever published dealing with how California Employment Development Department (EDD) operates. See "California Tax Collection Practice and Procedures" and "California Taxation Practice and Procedure", both published by Commerce Clearing House.