Freelancer or Employee? How to Avoid Employee Misclassification

There are more freelance workers in America than the total combined populations of 25 states. Making up 34% of the U.S. workforce, freelancers’ economic impact is significant and growing.

In preparation for the continual transformation of nine-to-fivers into freelancers, we’ve been talking about what exactly a freelancer is, the top challenges managers face when managing freelance workers, how to integrate freelancers into your organizational culture, how to communicate with freelance workers effectively, and more. But there’s a bump in the road that organizations may hit if they aren’t prepared—and it has to do with worker classification. Here’s what I mean:

Jorge works part time in IT at the engineering department of his university. He was hoping his hours would increase to 20 per week, but after six months of working there, he’s never exceeded 12 hours. As a result, his budget is totally off—bills are a struggle and he can’t afford to go out with his friends or visit his family.

Last month while scrolling through one of his LinkedIN groups, he found an opportunity to do IT contract work for a large electronics manufacturer. Picking up some freelance work seemed like an ideal solution. As a freelancer, he could work around his school schedule and supplement the income he already had. Jorge contacted the manufacturer and within a week was working for them to network their new location.

However, the freelancing wasn’t exactly what Jorge expected. He was required to be onsite twice a week during set times and he was issued a company laptop to monitor systems at four locations while out of the office. He was paid a set amount of money for ten hours per week, even if he worked more than ten hours.

After about a month, Jorge realized that this freelance job is the same as his part time job—but without the benefit of paid time off, unemployment insurance, overtime, and company perks. He can’t figure out how he ended up in this situation.

The Problem with Worker Misclassification

The situation Jorge unwittingly encountered is called misclassification. The company who hired Jorge completely misclassified him as a freelancer when really he was their employee. If they continue to operate this way, they may find themselves swimming in an unfortunate sea of legal fees, fines, penalties, back taxes, additional compensation owed for overtime, and more. Let’s look at a real life example.

The Consequences of Worker Misclassification

FedEx drivers were considered independent contractors. Yet they had to buy FedEx uniforms and decals to put on their trucks and adhere to specific delivery days, times and methods. Lawyer Shannon Liss-Riordin spent a decade battling FedEx to reclassify their drivers as employees. Courts ruled in two major cases last year that FedEx’s drivers were in fact employees. Since then, Liss-Riordin has settled FedEx cases in multiple states for a total of $5.8 million.

Liss-Riordan has spent her entire legal career going after employers for short changing their employees. Her latest obsession has been with the “on-demand economy”, such as tech companies like Uber, who provide delivery services at the touch of an app.

On-Demand Economy Challenges Worker Classification

When you take a look at Uber, you can see clearly how an on-demand service might be confusing for worker classification. Their drivers are considered independent contractors, yet they are screened and trained by Uber. They get “deactivated” if they receive too many bad customer reviews, aren’t available during certain times, or in one case “not showing respect” to Uber staff. They use their own vehicles, pay for their own gas, and cover their own car insurance. Yet Uber takes a cut of their tips. Confused yet? We don’t blame you.

It’s not surprising that organizations might get confused about the true classification of their workers. The freelance economy in the United States—34% of the workforce—is a relatively new reality, and many organizations just aren’t prepared. But this is a workforce trend that is only gaining speed. With 53 million Americans working as freelancers, it’s time for organizations to buckle down and learn how to work with them.

While learning how to effectively manage freelance workers is imperative, organizations also need to pay careful attention to how they are classifying their freelance workers and employees. Misclassification can be a one-way ticket to IRS and legal problems.

How can you be sure your worker is an independent contractor? Unfortunately there are no hard definitions. However, there are tools like the IRS’ 2-prong test, used in California, to help clarify. In addition, there are general guidelines you can use to evaluate each worker.

How Do I Know if My Worker is an Independent Contractor or an Employee?

If you’re confused about whether your worker is an independent contractor or an employee, start by asking yourself these six questions:

1. Can this person quit or can they be fired?

Independent contractors are generally hired for specific contracted work. They cannot quit doing that work without being in a breach of contract. Likewise, firing an independent contractor would be a breach of contract. On the other hand, an employee can quit at any time, and an employer can terminate employment at will.

2. Does this person supply most of his or her own equipment and supplies needed to get the job done?

Freelancers supply most of the equipment, supplies and software needed to get the job done. Employees are issued the equipment and provided with the necessary supplies and software to execute their job.

3. Does this person get paid a monthly or yearly amount?

Independent contractors typically have a set price per project, or an hourly rate. They are often not paid until the specific job is complete. Employees are often paid monthly and have salaries.

4. Does this person need to follow company guidelines about when, where, and how a job is done?

A freelance worker establishes their own procedures, time frames and protocols for the projects they work on. They also choose where they work. On the other hand, employees are bound by company policies and procedures, such as office hours and chains of command.

5. Did you train this person?

Independent contractors should come into the position already knowing the skills needed in order to complete the job successfully.

6. Did the worker previously perform the same or similar services for you as an employee?

An organization can’t simply change the status of an employee to independent contractor. This is not a way to save on benefits and unemployment taxes. If an employee switches to part time, or works from home, they are still considered an employee.

Freelancers Must Also Be Clear On Their Own Classification

Freelancers should also be very clear about whether they are an employee or independent contractor. The Freelancers Union and Elance-oDesk report created this great flowchart for freelancers to not only understand if they are an employee, but also identify what kind of freelancer they are.

With both the employer and independent contractor on the same page about their classification, both parties are protected.

Time for New, Clearly Defined Worker Classification Guidelines

Considering the future American workforce will likely be largely freelance, maybe new, clearly defined worker classification guidelines need to be created. As the U.S. workforce continues to revolutionize, it’s possible that employment law will evolve as well. We are staring at an entirely new workforce on the horizon, and we need all hands on deck in order to prepare.

To the freelancers and those who hire them—have you struggled with employee misclassification? Tell us your tale in the comment section below, send me an email, or find me on Twitter.