Question
My accountant says we are getting killed with employee costs and taxes. He suggested that we do the independent contractor thing, but I don't think so. He also suggested that we cut their wages and compensate the difference by giving them gas cards, grocery store gift cards, etc. Any thoughts on this?
Forum Responses
(Business and Management Forum)
From contributor K:
If you pay them as subs then they will need to have a contractor’s license and you will have to tell the IRS that they work in the field only, at least that's the way it works in California.
Frankly I am a bit surprised at his second suggestion. I don't see how that plan to provide alternate forms of compensation can work at all on a sustainable basis. Your employees would still be liable for the same amount of taxable income (whether it is provided as a salary or cash equivalents), according to the IRS. Of course, you can reduce your payroll tax liability by whatever amount you drop their wages. Unless you had some big (continually replenishing) slush fund somewhere from which to purchase your cash equivalents, and didn't need to account for the expenses in any way on your books, a very cursory review by state or federal auditors would reveal what is going on very quickly. I'm not a tax attorney so I won't pretend to know specifically what they call such evasive tactics, but I suspect that they aren't smiling when they talk about them - aside from the fact that most employees would be very concerned about relying on a completely undocumented source of income for any length of time, especially since it would replace their current, bona fide wages.
Now I'm not saying that there are not legitimate forms of providing alternative compensation like profit sharing plans, equity stakes, and matching employer contributions to a 401K plan (which are often non-trivial to self administer and can be costly to farm out), but gas and grocery cards aren’t the same thing!
I also got a better rate on workers comp because of their buying power. I also received employee manuals and their legal expertise. If an employee thought I wronged him or threatened suit, I could tap into their lawyers for free advice. Payroll was simpler to do, but one warning. If you have cash flow problems, there is no wiggle room. When they delivered my checks, I had to give their currier payment. No payment, no payroll. Caution here also, some of my employees felt alienated by my using a payroll service, but they were not the better employees. I'm not encouraging you to layoff anyone,
but if it is coming anyway, you are better off to deal with it before it gets out of hand.
The better solution is to identify how much you are "getting killed" by and find ways to offset it through internal cost reductions, process-improvement, increased sales, increased prices or a combination of the above. In the macro-sense, your business is like a three-legged stool. One leg is you, one leg is your customer and one leg is your employees. Your support braces between legs are your costs, your processes, and marketing. The seat is sales, which bring them all together. Without it, none of the rest has any purpose. Identify which part of your stool needs attention.
Classifying a worker as an independent contractor has a definite appeal for the contracting party (employer) and the service provider (independent contractor), particularly in difficult economic times. Plaintiffs' lawyers and management attorneys have reported a surge in misclassification lawsuits. Benefits to the employer include decreased payroll tax obligations, freedom from minimum wage and overtime requirements, no medical insurance or retirement benefits costs, and other administrative savings. Advantages for the independent contractor include flexibility, more money up front and tax benefits unavailable to employees, including deducting legitimate business expenses.
Classifying a worker as an independent contractor removes almost all employment rights created by federal and state law to which employees are entitled. Thus, behind the financial benefits of an independent contractor arrangement lies a minefield of possible liability for the employer. For example, the company that engages a worker as an independent contractor who is later determined to be an employee can be liable for unpaid taxes. Further, as an employee, the worker would be covered by wage and hour laws and could make a claim for unpaid overtime.
There is no single federal agency or statute that prohibits or regulates employer misclassification. The Internal Revenue Service has final authority for deciding whether a worker is an independent contractor for federal tax purposes, while other federal and state agencies, including the Equal Employment Opportunity Commission and the National Labor Relations Board, have final authority for purposes of the statutes within their jurisdictions.
More significant than federal and state activity is the presence of the plaintiff's bar and a disgruntled independent contractor. Litigation, and ultimately liability, can stem from an injured independent contractor who fails to appreciate that there is no entitlement to workers' compensation until after the relationship sours.
Similarly, discontinuing the relationship can give rise to disputes regarding alleged employment discrimination, unemployment compensation, and minimum wage and overtime obligations. A complaint by a disgruntled independent contractor opens the relationship to judicial examination. Employers can minimize liability by engaging legal counsel to assist in assessing the relationship.
Entering into an independent contractor agreement, wherein the independent contractor acknowledges the rights and obligations of the relationship, also provides some protection. Companies should refrain from relying upon industry practice to avoid liability for worker misclassification.
An independent contractor relationship can provide a seemingly win-win financial exchange for both parties. However, ultimately the risk of liability for misclassification lies with the employer. With misclassification suits on the rise, and drawing more attention from authorities, it behooves companies to carefully and thoroughly assess the situation, thus avoiding costly misclassification investigations and lawsuits.
