I suspect that this week’s story about Lowe’s paying $6.5 million to settle a class-action suit in California over its use of independent contractors isn’t the last we’ll hear about this case. I wonder if the IRS, California taxing authorities, and workers’ comp carriers also are looking at this. In the meantime, here are lessons you should take from the case regarding your own operation.
- It's critical to understand that, in most states, it isn’t necessary that the general contractor actually control the work—which is what Lowe’s generally was accused of doing—but rather that the GC retains the right to control the means and the manner of the work. That’s a hole you can drive a Mack truck through, if you are so motivated—and states are motivated!
- Examine the trade-off between branding your company and using subcontractors. The bigger your brand, the more attractive it is to make the consumer believe he can trust that brand because you control everyone working under its umbrella. I submit that Lowe’s didn’t want to employ trade laborers, but it also didn’t want the public to figure out that Lowe’s was sending the lowest bidder to install the retail purchase.
- Even where the parties have a written agreement detailing their independent-contractor relationship, courts and taxing authorities rarely find the agreement to be determinative. It is easy for the relationship to slip into an employment situation even where both parties didn’t intend it or want it.
- Take special note of this case if you use independent contractor sales reps, as is very common in the storm-damage renovation industry. How you control such reps, combined with the vital business function they provide, makes it highly likely that a misclassification determination will result.
- Most often, the issue creating the misclassification investigation is not a disgruntled sub/employee. Rather, it is a person injured on the site or someone without enough work to pay the rent showing up at the unemployment office to see if they might be eligible for benefits. These rather innocent situations begin a snowball rolling downhill that seldom ends well for the general contractor.
- The unfortunate thing for most remodeling contractors is that they are led to believe by industry custom that there is great tax and cost benefit to a 1099 relationship rather than an employment one. Most CPAs, though, will tell you that the deductions available to the sub are little different from those available to the employee. By simply explaining to the employee why they are better off as an employee, and properly adjusting the wage paid for the employment costs, both the employer and the employee end up in a very similar place as they’d be in an independent contractor arrangement. The real benefit to the employer is that they can exercise control over the employee, require uniforms and work rules that build brand, provide training, direct safety activities, and engage the employee in the growth and success of the contractor’s business, not in the subcontractor’s business.
- There is a time and a place for engaging independent contractors, be it in construction, software development, or office cleaning. To decide when it’s right, one must go beyond simply seeking to avoid tax and unemployment obligations. You should include business strategy, brand building, and general management in your considerations. Lowe’s determined that the value of brand, reputation, and control outweighed the benefits of having subcontractors. Its problem is that it tried to have it both ways, and was caught.
- Don’t think for a minute that this was some sort of isolated incident or unique to a big-box retailer. Federal and state agencies are cooperating in aggressive investigations of employee misclassification claims, and construction is one of the key industries being targeted. A huge fine assessed on a household name is intended to shake the confidence of all the other typical contractors, large and small, to buckle under and become the government’s tax collector and benefits provider.
