Workers Compensation and the Importance of Classifying Employees Properly

Workers Compensation and the Importance of Classifying Employees Properly

Workers Compensation and the Importance of Classifying Employees Properly

Last month, Manhattan District Attorney Cyrus R. Vance, Jr. announced that a New York State Supreme Court Grand Jury issued a report after examining the vulnerability of New York’s workers compensation insurance system to fraud and misuse. The Grand Jury’s report was as a result of an investigation conducted by the District Attorney’s Money Laundering and Tax Crimes Unit into false information provided to the New York State Insurance Fund in connection with applications for – and audits of – workers compensation policies.

According to the report, New York State and New York City lost an estimated $500 million in 2011 as a result of the way in which 70,000 construction laborers were being misclassified as independent contractors. The largest component of the loss was unpaid workers compensation premiums, with personal income tax, withholding, unemployment insurance, and various other business taxes accounting for the remainder. The workers’ compensation system in New York has revenues of $6 billion annually, with about 40% handled by the New York Sate Insurance Fund.

As a result of the report, the Grand Jury made several key recommendations to curb the abuse, including measures that will assist in early detection of premium fraud, improve compliance and enforcement efforts, deter cheating, and ensure fair and equitable treatment of all policyholders. The Grand Jury specifically calls for changes in state law to increase penalties for misclassification in order to ensure that sentences are proportionate to the magnitude of the fraud. Also called for is increased transparency by overhauling the application and audit process, making it more effective and less susceptible to fraud; increased dissemination of information into the hands of those responsible with investigating and prosecuting fraud; and broader education for employees and the community at large about the workers compensation system and its value to the public, so that everyone is better able to protect the system from fraud.

In an article in Property/Casualty 360, Vance indicated that he believes the criminal fines currently available for misclassification fraud do not constitute a sufficient financial penalty or an effective deterrent. In fact, Vance said, the potential criminal fine could in many cases be far smaller than the amount of unpaid insurance resulting from the fraud. “The law should be amended to increase the criminal fines as a general matter and to give judges the option of imposing a fine that is double or triple the amount of the fraud.”

The findings from the Grand Jury in New York is a reminder of the importance of classifying employees correctly – across all industries, including nonprofits – whether intentionally or erroneously done. Business owners and organizations must correctly determine whether the individuals providing services are employees or independent contractors. Generally, you must withhold income taxes, withhold and pay Social Security and Medicare taxes, and pay unemployment tax on wages paid to an employee. You do not generally have to withhold or pay any taxes on payments to independent contractors. According to the Internal Revenue Service (IRS), in determining whether the person providing service is an employee or an independent contractor, all information that provides evidence of the degree of control and independence must be considered. This includes three categories:

  • Behavioral control: Does the company control or have the right to control what the worker does and how the worker does his or her job?
  • Financial control: Are the business aspects of the worker’s job controlled by the payer? (these include things like how worker is paid, whether expenses are reimbursed, who provides tools/supplies, etc.)
  • Relationship of Parties: Are there written contracts or employee type benefits (i.e. pension plan, insurance, vacation pay, etc.)? Will the relationship continue and is the work performed a key aspect of the business?

The effects of misclassifying workers are fear reaching: Workers comp insurers are hit hard by worker misclassification, losing hundreds of millions of dollars in premiums every year. State and federal agencies lose out on uncollected revenues to fund programs like Social Security and unemployment. In the business sector, companies that classify their employees properly end up paying more in employee-related costs to cover what is not collected from those that don’t.

Caitlin Morgan specializes in providing workers compensation solutions and can help you secure a program that is right for your insureds, including assisting in auditing worker classifications to make sure they are done properly. For more about our programs, please contact us at: 877.226.1027.

Sources: The New York County District Attorney’s Office, Property/Casualty 360, IRS, ISO