There are a lot of perceived advantages associated with hiring independent contractors, especially when budgets are tight and staffing needs aren’t certain. But Emily Sanford Johnson, a labor and employment attorney with United Parcel Service, believes that companies need to carefully weigh the risks associated with using such workers.

Johnson addressed a group of lawyers attending ALM’s In-House Counsel Labor & Employment Forum in late March at the Harvard Club of New York. The in-house UPS lawyer said that although companies might be attracted to the flexibility, cost, and skills specialization of contractors, they should be aware of the potential legal and financial pitfalls.

“The biggest risk is the taxation consequence associated with misclassification,” said Johnson. Misclassifying workers can have tax consequences at both the state and federal levels. There is also potential liability for overtime and minimum wage payment violations; employee benefit, pension plans, and workers’ compensation liability; state meal and rest period laws; and a host of other employment laws.

The U.S. Department of Labor estimates that up to 30 percent of businesses misclassify worker classification, said Johnson, and the practice is costing the government billions of dollars each year in uncollected taxes. Last fall, the Labor Department announced that the agency had joined forces with the IRS and 11 states to fight misclassification. “The legal risks have been around for years,” said Johnson, “but they are only increasing.”

As to why the government cares so much about misclassification: “Federal and state governments are dealing with tremendous shortfalls today,” said Johnson, “and they’re looking for ways to get revenue.” Government agencies can generate cash by collecting taxes from both the individual and the more deep-pocketed employer.

Johnson said that state and federal governments are also interested in helping workers tap into the rights and benefits to which they’re entitled.

What types of employer activity are likely to trigger suspicion? “Unemployment or workers’ compensation claims filed with the state,” said Johnson, “or W2 employees who suddenly become 1099 in the same year — at the same company.”

Often something upsets an arrangement that both the employer and worker previously found desirable: for example, the company might terminate the independent contractor, said Johnson, which could lead to claims for benefits, overtime, and other legal claims. A claim that initially focuses on a single worker could lead to a larger-scale review of the company’s practices. And class claims for misclassification are becoming increasingly popular among the plaintiffs bar, said Johnson.

The burden of proof will be on the company should classification be called into question: The facts surrounding the claim are key, she said, and “it really doesn’t matter how they’re labeled.”

The company should not exert too much control over the manner in which the independent contractor performs services. Workers should be paid per project, instead of on an hourly or salary basis, she said.

Johnson said it should also be clear that the contractor faces consequences for failing to complete a project in accordance with the terms of the agreement. “They need to have some skin in the game,” she said. “If they are going to get paid regardless, it looks more like they’re an employee.”

Johnson advised in-house lawyers to train their business leaders about the management of independent contractors. And don’t just rely on what managers and contractors say, she said. Instead, pay attention to what the contractors are actually doing.n