1099 Employee Misclassification – Independent Contractor or Employee?

Only true independent contractors may receive 1099s for compensation for services rendered. But the truth is that California employers give 1099 forms to people who are misclassified as independent contractors. Sometimes their motives are honest: they believe that the worker is really an independent contractor. More commonly, they either ignore the reality of the situation, pay the worker as an independent contractor, and hope to not get caught, or they know that the worker is really an employee, but pay with a 1099 despite the consequences.

So is there a way to determine quickly whether a worker is an independent contractor or an employee? Unfortunately, it is never easy. This article will provide some very basic guidelines on how to avoid a 1099 misclassification situation.

But first, it really does matter if an employer misclassifies an employee as an independent contractor. Not only are there tax consequences (about which an accountant must be asked, not a lawyer), but there can be huge problems if the employment relationship sours. (And, effective January 1, 2012, employers can be assessed large penalties for willfully misclassifying an employee as an independent contractor.)

True independent contractors are not entitled to minimum wage or overtime pay or lunch breaks. Independent contractors cannot receive workers’ compensation or unemployment benefits. 1099 independent contractors also cannot sue for violation of the Fair Employment and Housing Act, which protects employees (not independent contractors) against unlawful harassment and discrimination in the workplace.

An employee who has been wrongfully misclassified as an independent contractor can find life very difficult once the employment relationship ends. If the 1099 employee files for unemployment or workers’ compensation benefits, representatives from those agencies could potentially deny the employee’s claims. The Labor Commissioner may deny the employee his or her right to seek unpaid wages. However, before these state agencies deny the employee’s rights, representatives from the agencies should attempt to make a determination as to whether the worker is an independent contractor or employee.

Problems could also result for an employer if a 1099 misclassified employee files for any of these types of benefits with a state agency like the Employment Development Department, the Division of Workers’ Compensation, or the Labor Commissioner. As we know, the State of California needs extra revenue, and these agencies can impose fines against employers who wrongfully classify an employee as an independent contractor.

For example, the Division of Labor Standards Enforcement (“DLSE,” the parent agency of the Labor Commissioner) can assess civil penalties against such an employer for every violation of its laws in each pay period going back one year. So, for a misclassified 1099 employee who did not receive overtime wages and lunch breaks every pay period over the last year, the DLSE may impose a penalty for each violation ranging between $100 and $1,000 (the biggest penalty is for not providing paycheck stubs under Labor Code section 226.3) for each pay period. That could add up to many thousands of dollars of civil penalties for the employer.

Moreover, the chances are that if a state agency investigates an employer’s misclassification of one 1099 employee, it will also investigate the employer’s classification of other employees; if others are misclassified as independent contractors, it could lead to even greater fines. These fines are easy money for the dollar-hungry state agencies.

Not only may the state agencies assess fines against the employer, but the aggrieved misclassified 1099 employee may bring a claim for unpaid wages and penalties with the Labor Commissioner or for unpaid wages, penalties, and attorney’s fees in a civil lawsuit. If the misclassification involves a whole class of workers for the employer, it could also possibly lead to a class action for unpaid wages. Also, if the employee seeks workers’ compensation benefits and the Division of Workers’ Compensation determines that the worker was an employee, the employee may receive the benefits. The same is true for the wrongfully classified employee who convinces the unemployment office that he or she is really an employee.