A Tough New Law Tightens the Screws on Independent Contractors


The entertainment industry has used independent contractors extensively for years. Since most creative projects are often produced on a one-off basis with the crew hired on a short-term basis, it makes financial sense to follow this practice. Just because it is accepted does not necessarily make it right, because independent contractor rules are often abused. That has motivated the state and the federal government to start imposing some serious new penalties for companies who cross the line.

Why are the IRS, Department of Labor, and many state agencies so upset at businesses who improperly use independent contractors? Paying an independent means no wage withholding, no employment taxes, no workers’ compensation, no unemployment insurance, as well as no liability for fringe benefits and pensions.

Since the question of who qualifies is a gray area, some businesses are tempted to push the envelope due to the advantages of using independent contractors.

The following are some of the key components of California’s new SB 459:

  • The penalty increases for “willfully misclassifying” an employee from $5,000 to $15,000 per violation. This fine increases to $25,000 per violation if there is a “pattern and practice” of willfully misclassifying workers.
  • It is now unlawful to charge misclassified independent contractors any fee or take deductions from any of their compensation. This means that companies cannot deduct fees for goods, materials, services, repairs, etc. provided to the independent contractors from their compensation if the independent contractors are later reclassified as the companies’ employees.
  • If a business has purposefully misclassified an independent contractor, a prominent public notice must be posted for one year detailing the misclassification.
  • Consultants who wrongly advise employers on independent contractor matters face joint and several liability.
  • Extensive audits of a business can now be conducted by the IRS and state agencies in order to determine whether workers are properly classified. If it has been officially determined that independent contractors should have been classified as employees, then, in addition to fines, the businesses could face back taxes, penalties, and legal fees.

There does not appear to be any definitive criteria of what differentiates an independent contractor from an employee. This new legislation fails to provide any clear guidance on the difference between the two categories. Furthermore, California and federal agencies have separate definitions and tests to determine what separates an independent contractor from an employee.

The passing of SB 459 clearly demonstrates the IRS’s intent to crack down on worker misclassification. Companies utilizing independent contractors in California should reexamine their classifications to make sure they are in line with the new law.

Legal and practical factors must be considered prior to hiring a new employee or independent contractor to make sure they are properly classified. This new law makes clear the importance of being aware of and adhering to the many state and federal regulations on the matter.

For more information about this article, please contact our tax professionals at taxalerts@windes.com or toll free at 844.4WINDES (844.494.6337).