The Misclassification Initiative: Colorado Partners with the United States Department of Labor in an Effort to Crackdown on the Misclassification of Employees as Independent Contractors

Drew Hintze[1]

Efforts to combat the problem of businesses misclassifying employees as independent contractors have increased considerably over the past few years, but the pervasiveness of employee misclassification is a longstanding issue affecting Colorado and the nation as a whole. In 2010, the Colorado Department of Labor and Employment (“CDLE”) found that 14.2 percent of the workforce in the state was incorrectly classified as independent contractors.[2]  This is an increase of approximately 7 percent from 2006.[3] Colorado’s employee misclassification figures substantiate a study conducted on behalf of the United States Department of Labor (“DOL”) finding that 10 to 30 percent of the American workforce is incorrectly classified as independent contractors.[4] Consequently, the federal government, through the DOL, created the multi-agency “Misclassification Initiative” in a stated effort to protect the wages, safety, and health of America’s workforce. In December 2011, Colorado became the eleventh state in the nation to join the Misclassification Initiative to provide a joint effort to crackdown on employee misclassification.[5]

The United States Department of Labor’s Misclassification Initiative

Launched under the auspices of Vice President Joe Biden’s Middle Class Task Force, the Misclassification Initiative seeks to protect the wages, safety, and health of America’s workforce. The Misclassification Initiative took its first major step forward in September 2011, when the DOL signed a partnership agreement with the Internal Revenue Service. Under this agreement, the two agencies agreed to work together and share information to reduce the prevalence of the misclassification of employees, to help reduce the tax gap, and to improve compliance with federal labor laws.[6] The DOL has additionally signed agreements with state labor commissioners and other agency leaders including the Employee Benefits Security Administration, Occupational Safety and Health Administration, Office of Federal Contract Compliance Programs, and the Office of the Solicitor.[7] By establishing this multi-agency federal and state collaboration, the DOL intends to act as the central command hub by sharing information and coordinating enforcement efforts with participating federal and state agencies in order to level the playing field for law-abiding employers and to ensure that employees receive the protections to which they are legally entitled under federal and state law. [8]

The Effect of Misclassification on Employees, Employers, and the Government

There is often less cost to, and regulation of, businesses whose personnel are classified as independent contractors rather than employees.[9] However, when businesses erroneously or willfully misclassify their employees as independent contractors, employees, businesses, and government all suffer. Specifically, employees misclassified as independent contractors are prevented from receiving critical workplace protections and employment benefits such as medical and family leave benefits, overtime compensation, minimum wage, unemployment insurance if laid off, and workers’ compensation if injured.[10] Independent contractors rarely receive health insurance or other fringe benefits like regular employees. Further, misclassification creates economic pressure for law-abiding business owners who find competing with those employers skirting the law difficult, as those employers gain an unfair competitive advantage by failing to pay federal and state unemployment taxes, Social Security and Medicare taxes, and workers’ compensation benefits if an employee is injured on the job.[11] As a result of these employers failing to pay their share of federal and state taxes, state and federal governments lose out on substantial tax revenue and revenue to fund unemployment insurance and workers' compensation funds.[12] For instance, in Colorado over the 2009 and 2010 calendar year, the CDLE determined that the underreporting of chargeable wages, as a result of employers wrongfully classifying employees as independent contractors, amounted to $26 million, the underpaid premiums to the Colorado Unemployment Insurance Trust Fund amounted to $17 million, and the unpaid Colorado income tax revenue amounted to a staggering $167 million.[13]

Colorado Joins the Misclassification Initiative

On December 5, 2011, the CDLE officially teamed up with the DOL and its Misclassification Initiative by ratifying a three-year partnership agreement to, among other things, share intelligence and perform investigations in a joint endeavor to prevent, detect and remedy the problem of employers wrongfully classifying workers as independent contractors.[14] The Misclassification Initiative in Colorado seeks to achieve three goals: (1) to provide clear, accurate, and easy-to-access compliance information to employers and employees; (2) to share resources and information; and, (3) to enhance enforcement by conducting coordinated enforcement actions. The two agencies will coordinate and conduct joint outreach presentations to employers and will prepare and distribute publications of common concern and outreach materials for the regulated community in an effort to increase employer education on these issues. To share information, the agencies will exchange information on laws and regulations of common concern to each other and will implement a methodology for exchanging investigative leads, complaints, and referrals of possible violations. Finally, and perhaps of most importance to employers, the agencies will refer to each other potential violations of each other’s statutes, conduct joint investigations, and coordinate and assist each other in the enforcement of these activities.[15] Accordingly, employer non-compliance is now more dangerous than ever as this partnership arms these agencies with the ability to share employer information between each other, enabling them to cast a wider net to investigate businesses and enforce compliance when businesses are found in violation. Employers found in violation of willful misclassification of an employee as an independent contractor may consequently find themselves facing severe monetary penalties.

Classifying an Individual as an Employee or Independent Contractor in Colorado

Distinguishing whether an individual is an employee or an independent contractor is not always a simple undertaking. In Colorado, there is no common law definition of “employee.” Rather, whether an individual is an employee or independent contractor is statutorily defined. The statutory definition of employee then differs depending on the specific program and statute.[16] For instance, the Colorado Employment Security Act (unemployment insurance laws), the Workers’ Compensation Act (workers’ compensation laws), the Colorado Wage Claim Act (labor laws), and the Colorado Income Tax Act (revenue laws) all use different statutory definitions of the term “employee.” The Colorado Wage Claim Act essentially states that, if a worker is an employee under the unemployment or workers’ compensation laws, the worker is an employee under the labor laws with two conditions: (1) the worker’s service must benefit the employer; and (2) the employer must have the ability to command when, where, and the amount of services to be performed. [17] An independent contractor is not considered an employee under the Colorado Wage Claim Act.

Colorado and federal courts and agencies each utilize their own multi-factor tests when distinguishing whether an individual is an employee or independent contractor.[18] While these tests may each take into consideration different factors, the common trait that courts and agencies focus on when determining an employee’s classification status is the amount of “control and direction” the employer has over the details of an individual’s performance.[19] Generally, when making this determination, courts and agencies will look at facts which may include:

BEHAVIORAL CONTROL

Facts that show whether the business has a right to direct and control how the work is performed, through instructions, training, or other means.

Employees are generally told:

  • when, where, and how to work
  • what tools or equipment to use;
  • what workers to hire or assist with their work;
  • where to purchase supplies and services;
  • what work must be performed by a specific individual;
  • what order or sequence to follow in performing tasks.

FINANCIAL CONTROL

Facts that show whether the business has a right to control the business aspects of the worker’s job.

Financial aspects that may be examined include:

  • the extent to which the worker has un-reimbursed expenses;
  • the extent of the worker’s investment;
  • the extent to which the worker makes services available to the relevant market;
  • how the business pays the worker;
  • the extent to which the worker can realize a profit or loss.

TYPE OF RELATIONSHIP

Facts that show the nature of the relationship between the two parties.

Relevant information on the nature of the relationship includes:

  • written contracts describing the relationship the parties intended;
  • whether the worker is provided with employee-type benefits;
  • the permanency of the relationship;
  • how integral the services are to the principal activity.[20]

However, this is not an exclusive list of factors and no one factor is ultimately determinative as to whether a worker is classified as an employee or independent contractor.[21] To the contrary, courts and agencies evaluate a worker’s classification based upon the “totality of the circumstances” of the employment relationship.[22] Accordingly, employers must be thorough and diligent in their compliance review, and ensure that the entire relationship between the employer and worker is understood when classifying that individual either as an employee or independent contractor. 

Legislative Efforts in Colorado to Enact Stricter Penalties for Employee Misclassification

Through the joint effort of the Misclassification Initiative in Colorado, Colorado stands to benefit monetarily from an aggressive enforcement of violators as a result of recent Colorado legislation that can impose strict penalties on businesses found willfully misclassifying employees. In 2009, former Governor Bill Ritter signed into law House Bill (“HB”) 09-1310 to clamp down on the misclassification of employees as independent contractors by providing the CDLE with a statutory vehicle to conduct investigations and to impose potentially severe penalties against employers found in willful violation of the law.[23] Under HB 09-1310, any person may blow the whistle on an employer by filing a written complaint alleging that an employer has misclassified the complainant, or another employee, as an independent contractor.[24] Within thirty days of receiving the complaint, the CDLE determines whether or not an investigation is warranted.[25] If an investigation is warranted, the complainant and employer are notified and alerted that an investigation is to take place.[26] The complainant and employer are expected to cooperate and provide information necessary to facilitate the investigation.[27] If an investigation finds that an employer has misclassified employees, then the employer must pay all back taxes owed with interest.[28] If the investigation determines that the employer willfully disregarded the law, a fine up of to $5,000 per misclassified employee will be assessed.[29] For second or subsequent willful offenders, fines of up to $25,000 per misclassified employee will be assessed.[30] Second or subsequent willful offenders are further prohibited from contracting with, or receiving funds for the performance of any contracts from, the state for up to two years.[31]

In addition to the investigation and enforcement component of HB 09-1310, the law provides a compliance component whereby employers seeking advice on the proper classification of workers may request a written advisory opinion from the CDLE.[32] Upon receipt of the request and accompanying information, the CDLE shall issue an advisory opinion to the employee indicating whether the employer should classify the individual as an employee in order to comply with the act. [33] Accordingly, employers have the option of taking a proactive measure to ensure compliance and avoid possible violations where the business is unsure of the classification of an employee(s).

Conclusion

Employee misclassification unfairly prevents workers from workplace protections and employment benefits, undermines fair market competition, and negatively impacts the business environment. As federal and state governments face massive budget deficits, measures to expand investigation and enforcement to deter employee misclassification are being implemented as a method to recapture previously lost tax revenues. The federal government anticipates that the increased efforts to crackdown on employee misclassification through the Misclassification Initiative will increase treasury receipts by over $7 billion over the next ten years.[34] Accordingly, as the Misclassification Initiative begins to take off in Colorado, compliance by employers in this state is more important than ever as they will now face tougher federal and state scrutiny to ensure that workers are properly classified.

 


[1] Drew D. Hintze is currently the Law Clerk for the Honorable Judge Michael A. Martinez, presiding judicial officer for the Civil Division of the 2nd Judicial District Court.  On May 1, 2012, Drew is transitioning to an associate position with the law firm of Barkley & Martinez, P.C. where he will concentrate on employment law and appellate matters.

[2] The top five industries with the highest rates of misclassification are: (1) Transportation & Warehousing (84.2%); (2) Education Services (57.9%); (3) Arts, Entertainment & Recreation (55.6%); (4) Information (53.8%); (5) Construction (53.3%). Colorado Department of Labor and Employment, Annual Compliance Report (June 2, 2011), http://www.colorado.gov/cs/Satellite?blobcol=urldata&blobheader=application%2Fpdf&blobkey=id&blobtable=MungoBlobs&blobwhere=1251719071697&ssbinary=true.

[3] Id.

[4] Planmatics, Inc., Independent Contractors: Prevalence and Implications for Unemployment Insurance Programs, (February 2000), http://wdr.doleta.gov/owsdrr/00-5/00-5.pdf.

[5] The following thirteen states are collaborating with the DOL and the Misclassification Initiative: California, Colorado, Connecticut, Hawaii, Illinois, Louisiana, Maryland, Massachusetts, Minnesota, Missouri, Montana, Utah and Washington. U.S. Department of Labor, Wage and Hour Division (WHD) - Employee Misclassification as Independent Contractors, http://www.dol.gov/whd/workers/Misclassification/ (last visited (Apr. 9, 2012).

[6] Id.

[7] Id.

[8] Id.

[9] Myra H. Barron, Who's an Independent Contractor? Who's an Employee?, 14 Lab. Law. 457, 463 (1999)

[10] Heather Draper, Colorado, federal labor departments join forces to fight employee misclassification, Denver Business Journal, (December 5, 2011, 10:34AM), http://www.bizjournals.com/denver/news/2011/12/05/colorado-federal-labor-departments.html?page=all.

[11] U.S. Department of Labor, US Labor Department, Colorado Department of Labor and Employment sign agreement to reduce misclassification of employees as independent contractors, (Dec. 5, 2011), http://www.dol.gov/whd/media/press/whdpressVB3.asp?pressdoc=national/20111205.xml.

[12] Colorado Department of Labor and Employment, supra note 2.

[13] Id. at 9, 11.

[14] U.S. Department of Labor, supra note 10.

[15] Partnership Agreement Between the U.S. Department of Labor, Wage and Hour Division, and the Colorado Department of Labor and Employment, http://www.dol.gov/whd/workers/MOU/co.pdf.

[16] In 2011, the CDLE recommended that the state not adopt a common law definition of employee because each statute’s definition of employee is similar, the definition used by each program suits each program’s needs and its legislative purpose, and each program functions independently of the other, and the potential exists for a common definition to create more conflict than it would prevent.

Colorado Department of Labor and Employment, supra note 2.

[17] See Colo. Rev. Stat. § 8-4-101(4) (2011) (defining “employee’).

[18] See, e.g., Norton v. Gilman, 949 P.2d 565, 567-68 (Colo. 1997) (citing Restatement (Second) of Agency § 220(2) (listing 10 factors Colorado courts consider)); Hockett v. Sun Co., Inc., (R&M), 109 F.3d 1515, 1526 (10th Cir. 1997) (listing 11 factors federal courts consider); Rev. Rul. 87-41, 1987-1 C.B. 296 (listing 20 factors the Internal Revenue Service considers).

[19] See, e.g., Norton, 949 P.2d at 567-68; Hockett, 109 F.3d at 1526 (10th Cir. 1997); Colvin v. C.I.R., 93 T.C.M. (CCH) 1382 (T.C. 2007) aff'd, 285 F. App'x 157 (5th Cir. 2008). 

[20] Colorado Department of Labor and Employment, supra note 2.

[21] Norton, 949 P.2d at 567-68.

[22] See id. (citing Farmers' Reservoir & Irrigation Co. v. Fulton Inv. Co., 255 P. 449, 450 (Colo. 1927); Kime v. Hobbs, 562 N.W.2d 705, 711 (Neb. 1997).

[23] Colo. Rev. Stat. § 8-72-114 (2011).

[24] § 8-72-114(3)(a).

[25] § 8-72-114(3)(d).

[26] Id.

[27] Id.

[28] § 8-72-114(3)(e)(I).

[29] § 8-72-114(3)(e)(III)(A).

[30] Id.

[31] § 8-72-114(3)(e)(III)(B).

[32] § 8-72-114(4)(a).

[33] § 8-72-114(4)(b).

[34] U.S. Department of Labor, The Budget for Fiscal Year 2011, http://www.whitehouse.gov/sites/default/files/omb/budget/fy2011/assets/labor.pdf.