Importance of Proper Worker Classification on the Bottom Line

Take a quick headcount in your office. How many people are currently in the office? How many are part time or full time?

Do you know how they are classified? How you classify your employees means a lot to how you account for them when determining your workers’ compensation insurance costs.

Workers’ compensation costs are based on class codes for your employees. For example, a clerical position for a person who stays in the office all day at a desk job is different than someone who is in outside sales and on the road most of the time. The risk is different with each position, so codes are assigned to the different types of job duties and functions to calculate the overall cost of insurance. There are more than 700 different codes an employee can be classified under based on their duties and day-to-day activities on the job.

Not all employees are classified equally. Any place of employment can have workers classified under a variety of codes. If you have employees classified in the wrong code categories, you could be under- or over- insuring them, and in turn, paying to little or too much for your worker’s compensation insurance costs.

If you have employees who are classified incorrectly, it could impact future rates and performance modifications based on your company’s track record. The better the record you have for proper classification, worker safety and minimal claims, the better the rate you may get on your insurance.

Think about how many of those people you counted are employees. It’s relevant to raise the question because you have a body in a seat – or cubicle, as the case may be – it doesn’t actually mean that that person is an employee of your company. Getting this “head count” wrong could lead to dire consequences for your company in the form of financial and legal sanctions.

What we’re speaking of, of course, is worker classification. According to the Internal Revenue Service (IRS), in order for someone who works for your company to be considered an employee, the company must:

  • Have control over all aspects of how the said worker performs the job, including when, where and how they do their job.
  • Have control over all financial aspects of the job, including when the worker is paid, whether expenses are reimbursed, what is offered in terms of benefits, and any other relevant financial matters.
  • Be employing the worker to perform work that is a key component of the company’s daily operations and that extends beyond the duration of a particular task.

While these three components seem fairly cut and dry, you’d be surprised by how many contractors can be included in one or even two of the categories above. So how can you further tease out the independent contractors from your own home-grown employees? Well, an independent contractor will…

  • Use their own materials to perform their jobs
  • Are on board in only a temporary capacity with your company
  • Are paid a flat fee and/or complete invoices for work performed
  • Control how, where and when they work
  • Cannot terminate services without facing some consequences
  • Are not eligible for unemployment benefits or workers’ compensation

Ok, so that clears it up. But what if you’re still really on the fence about your employees’ classification? Well, somewhat unsurprisingly, the IRS has a form for that! Form SS-8, Determination of Worker Status for Purposes of Federal Employment Taxes and Income Tax Withholding, can be filed by the company or the worker. The IRS will review the facts and circumstances of the case and issue a final decision as to the worker’s status. This is a great free option for the business owner that hires multiple workers that fall into this no-mans zone. The bad news? It generally takes at least six months for them to issue a verdict.

But, what’s the big deal about worker classification? Well, essentially it all boils down to employment laws – and specifically which ones you are on the hook for. Some laws, such as the Fair Labor Standards Act (FLSA) uphold minimum wage standards for employees and also determines who’s eligible for overtime, while the Immigration Reform and Control Act (IRCA) can get you into a heap of trouble if it’s found that you have employed undocumented workers. Similarly, employees – and not contractors – are eligible for Family and Medical Leave Act (FMLA) entitlements, including leave from work under select circumstances, as well as the reinstatement of their position following a leave of absence.

There are also a number of insurance implications. For example, how much you as a small business pay for workers’ compensation can fluctuate significantly based on how many employees vs. contractors you have on staff, largely because most states only require that you pay workers’ comp for injuries that occur to employees. Similarly, you don’t have to offer health benefits – or any benefits for that matter – to contractors in most states, meaning that you can significantly trim down the number of folks whose benefits you are chipping in on!

Still confused about who’s a contractor and who’s an employee? Enter the PEO, which has a baseline knowledge of various worker classifications and can generally quickly classify whoever you have on your payroll into the appropriate buckets. Got some ones that are real head-scratchers? Chances are, a Professional Employer Organization (PEO) has probably seen it before – or know someone who has – and can draw on that knowledge to get the answers that you need in a far more timely fashion than the IRS.