Tips on Winning an Independent Contractors/Consultant Tax Audit

If your San Diego or California business has independent contractors and/or consultants, you may be subject to an audit by taxing authorities to determine whether you have purposely or inadvertently misclassified your employees as independent contractors/consultants. This is NOT an audit that you want to lose. If you misclassify employees, your business will be subject to fines and penalties, your business will have to pay various FICA and other withholding taxes, and your business may be subject to fines, lawsuits, and judgments with respect to overtime, vacation days, workers’ compensation, unemployment benefits, and other labor protection statutes. You need skilled and experienced business legal counsel to set up your independent contractor agreements to provide the best possible footing to avoid a tax audit or succeed in an tax audit.

If you cannot avoid the audit, however, here are some tips for avoiding misclassification of workers and making your independent contractors/consultants “audit-proof.”

Avoiding Misclassification of Workers

From various case law and from California and federal labor statutes, here are important ways of ensuring that workers are “independent contractors:”

• Pay per project — not by the hour
• Do not pay on a regular schedule — indeed, provide that the contractor/consultant must ask for pay
• Keep contractors/consults away from actual employees — let them work where they want, but not at your regular place of work
• Do not impose rules about dress
• Do not impose rules about time and hours of work
• Do not equip your contractors/consultants — no company equipment, no business cards, no stationary
• Do not micromanage how they perform their tasks
• Do not limit what other work they can do, who they can work for, etc.
• Make sure contractor/consultant tasks are different that those performed by your employees
• Your contractors/consultants should do tasks that are not “central” to your business
• Have them sign independent contractors/consultant agreements that specify that they are contractors/consultants and NOT employees
• Do NOT have a termination provision in the agreement — this may sound odd, but any provision allowing termination is seen by the courts as a mechanism of control
• Avoid mandating any particular investment in equipment or materials, particularly if the equipment is costly

Grubhub Wins Case: Its Drivers are Independent Contractors

A recent case from the US District Court in northern California regarding Grubhub highlights some of these principles. See Lawson v. Grubhub, Inc., Case No. 15-cv-05128-JSC (N.D. Cal. February 8, 2018). See LA Times News report here.

As many know, Grubhub is an internet-based platform for ordering food for delivery. Grubhub has a large number of drivers that sign up and use their own cars and vehicles to deliver take-out food ordered from various restaurants to individuals who have placed orders via Grubhub’s website. In the Lawson case, the driver claimed that he was an “employee” and, therefore, was entitled to various employee benefits such as unemployment, overtime, vacation days, workers’ compensation, and the like. Grubhub argued that he and its other drivers are independent contractors.

The US District Court ruled in favor of Grubhub, although the decision was closer than one might expect.

Many factors were weighted in favor of the drivers being independent contractors including no dress code, no hours set, no requirement for types of cars, no requirement that the drivers take certain assignments, no set time or schedules, etc. Other factors were weighted in favor of the drivers being employees including a 14-day notice of termination, the Independent Contractor Agreement, which the court held to be more like an employment agreement in substance, payment was essentially by the hour and the fact that delivering take-out food was the core business of Grubhub. On the balance, however, the court decided that the driver was an independent contractor with the court focusing on the fact that the work was done for only four months.

The legal lesson is follow the above tips and avoid the mistakes made by Grubhub. Think about it: Why did Grubhub need a termination provision?

San Diego Business Law: Contact San Diego Corporate Law

The foregoing highlights the importance of well-thought-out business decisions and strategies and well-drafted written independent contractor/consultant agreements. If you would like more information, contact attorney Michael Leonard, Esq., of San Diego Corporate Law. Mr. Leonard provides a full panoply of legal services for San Diego and California businesses. Mr. Leonard has been named a “Rising Star” 2015-2018 by SuperLawyers.com and “Best of the Bar” 2015-2017 by the San Diego Business Journal.  Mr. Leonard can be reached at (858) 483-9200 or via email.

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