Independent Contractor Misclassification and the Rise in Class Actions
As Congress and state governments look to fill holes created by lowered revenue, they are taking aim at companies using “independent contractors” by increasing regulations and targeting entities such as the trucking industry. In addition to increased regulation, class action lawsuits by “independent contractors” alleging they should be classified as employees have proliferated. In fact, class actions brought by “independent contractors” rose 50% in 2010. Despite this complex atmosphere, companies using independent contractors can take steps to avoid costly fines and legal fees resulting from misclassification.
In April, three Democratic senators introduced the Payroll Fraud Prevention Act (PFPA), a watered-down version of the Employee Misclassification Prevention Act (EMPA), a bill that died in committee last year. Unlike the EMPA, the PFPA does not impose new recordkeeping requirements on companies, but like the EMPA, the new bill seeks to impose fines of up to $5,000 per misclassified employee. Even for smaller employers, these fines can add up quickly and additional penalties for willful behavior can worsen the impact. If this bill passes, companies would be required to inform independent contractors of their status and direct them to the Department of Labor website for filing misclassification complaints.
Even without the PFPA enacted, federal regulators like the IRS have increasingly turned the spotlight on companies that use independent contractors. The IRS announced it will audit over 6,000 randomly selected businesses during the next three years to detect misclassification. The Teamsters and other labor groups have seen the increased regulation as an opportunity to encourage misclassified independent contractors to unionize.
In addition, as reported previously, on top of the increased federal regulation, Pennsylvania recently adopted the Construction Work place Misclassification Act (CWMA) which requires that independent contractors meet a three-part test to maintain their classification. The test requires an independent contractor to  have a written contract to perform services,  be free from control or direction over the performance of such services, and  be customarily engaged in an independently established trade. Violations of this law can lead to fines of up to $2,500 per employee and criminal prosecution. While this act only affects the construction industry, acts like the CWMA appear to be the growing trend nationwide (e.g., New York passed a similar law in 2010).
With respect to the litigation front, several trucking companies are presently facing class action suits resulting in costly settlements and legal fees. In one recent example, truck drivers in Washington and Oregon received a $2.25 million settlement after claiming 3P Delivery had misclassified them as independent contractors. Among the allegations were that 3P Delivery required drivers to fill out applications, disallowed substitute drivers, and controlled the workload of the drivers. Further, in February 2011, truck drivers classified as independent contractors filed a class action suit against Sears alleging that Sears controlled how the drivers completed their work and required them to purchase or lease trucks with the Sears logo and wear a Sears uniform.
Moreover, for companies in search of “quick fixes,” simply having independent contractors sign an agreement acknowledging their status is not the definitive or determining factor in resolving the issue. In the 2010 case of Narayan v. EGL, Inc., the Ninth Circuit Court of Appeals determined that truck drivers who had signed acknowledgements were not actually independent contractors based on the amount of control the company exercised over them.
Despite increasing complexity, the independent contractor classification is still a viable option and continues to be the best option for many companies. However, in order to avoid litigation, it is vital to adhere to the requirements set forth in the regulations and the advice and recommendation of counsel. Specifically, the most important principle is that the independent contractor, and not the company, has the right to control the manner and means by which the work is performed. To that end, companies must recognize that the DOL will look beyond the actual agreement to the substance of these relationships. If your relationship with independent contractors seems inconsistent with any of principles set forth above, it may be time to restructure the relationship to steer clear of potential litigation.