It sounds benign enough: the misclassification of workers. Probably just a clerical error, right?
Wrong! The intentional misclassification of workers is the means by which many employers in this state and around the country cheat workers out of wages, screw the Social Security system, and evade state and federal taxes. Misclassification refers to when a company labels workers independent contractors when they are actually employees.
Though illegal, the ruse offers major benefits to employers who practice it. Independent contractors do not have to be paid minimum wage and overtime. They are not protected by many of the health and safety regulations that protect payroll employees, and they have no protection to organize. Most importantly, the employer is relieved of any responsibility to pay into the Social Security fund on behalf of an independent contractor, does not pay into the state’s unemployment insurance fund or buy workman’s compensation insurance, and is not obligated to check a contractor’s immigration status.
The employer is relieved of a lot of paperwork by classifying his workers as contractors. Part of that paperwork is the withholding of state and federal income tax.
A 2007 study by the General Accounting Office showed that 10 million workers were illegally classified as independent contractors in the United States and the numbers were climbing. Other studies have found that perhaps 30 percent of employers misclassify some or all of their workers. As a result, employers cheat the federal government out of $4.7 billion in revenue, according to the GAO study. Some studies put the number closer to $7 billion. In this time of soaring budget deficits, this is a glaring loophole that cries out to be closed — and it isn’t even legal.
The misclassification of workers has another toxic side effect. Employers who cheat on their classification can cut payroll by as much as 30 percent, making it almost impossible for honest employers to compete. They often find they have no alternative but to join the cheaters, creating a vicious downward spiral of tax evasion and impoverished workers.
The intentional misclassification of workers has been a plague for years, but it has gotten worse since 2008, as employers sought to downsize their workforces yet maintain flexibility in the sputtering economy.
The misclassification of workers is against federal law, because it involves the evasion of federal taxes, Social Security, and other responsibilities. The U.S. Treasury and Labor departments have special task forces assigned to enforce federal laws regulating the use of independent contractors. President Barack Obama has given those departments a special $25 million allocation to address the problem of misclassification. It’s a good investment.
There are some gray areas between employees and independent contractors, but for the most part the division is pretty clear. An employer stipulates the time, place, and manner of the work to his employees and provides tools and supervision for the work. An independent contractor is in business for herself. She is free to do a job in her own time and place and by her own means. The employer does not control her process.
This may be important to know as tax forms go out in a few weeks. Employees receive 1040 IRS forms; contractors receive 1099 forms. If you think that you are an employee, but you receive a 1099 form, it might be time to pick up the phone and call the local IRS office. But it won’t do any good to call the S.C. Department of Revenue.
In recent years, some 30 states have passed laws against the misclassification of workers. Needless to say, South Carolina was not among them. Other states are eager to enforce the law and capture revenue lost through misclassification. But in South Carolina, nothing like this has been passed, and nothing like it has been prefiled in the General Assembly going into the new legislative session.
In the past year, this state has faced an epic budget shortfall. We have seen health, environmental, and other services cut back. The state has had to borrow more than $100 million from the federal government to pay unemployment benefits. There is even talk of cutting 10 days off the school year in one of the worst school systems in the country. And yet tens of millions of dollars in revenue are being lost to cheating employers every year, revenue that could be recovered by the diligent enforcement of existing laws. But our GOP-dominated legislature has shown no interest in making the effort.
The Republican Party’s behavior speaks volumes about their true values. They talk a good game about closing tax loopholes and living within our means, but when these preachments come in conflict with the state’s Wild West business culture, business wins out every time.
As always, the legislature is here to serve wealth and power. So it has always been. So it will be in 2011.