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Spring 2010

Employment Law Bulletin

Employers Beware: Misclassification of workers carries hefty penalties

Two recent court decisions which upheld employees’ claims of violations of the wage and hour laws demonstrate once again that employers can be subject to sizable damages in civil actions and may be the subject of federal or state investigations involving misclassification of workers or failure to calculate wages properly.

Recent State Court Decision

In a 2009 decision of the Massachusetts Supreme Judicial Court (“SJC”), Somers v. Converged Access, Inc., the employer, a software company, hired an engineer as an independent contractor after the engineer was rejected for employment at the company. The engineer eventually sued the company for violations of the state wage and hour laws.

The lower court held that the company could not prove that the engineer was an independent contractor according to the definition set forth in Massachusetts General Laws, Chapter 149, Section 148B. Under that definition, in order for an individual to be considered performing services as an independent contractor, the employer must show that: 1) the individual is free from control and direction in connection with the performance of the service; 2) the service is performed outside the usual course of the business of the employer; and 3) the individual is customarily engaged in an independently established trade, occupation, profession or business of the same nature as that involved in the service performed. G. L. c. 149, § 148B. However, the lower court dismissed the wage claims since, based on undisputed evidence, the plaintiff was paid more as an independent contractor than he would have been paid in wages and benefits if he had been hired as an employee and therefore suffered no damages as a result of the misclassification.

In rejecting this argument on appeal, the SJC stated that misclassification of workers hurts individuals because they are denied holiday, vacation, and overtime pay, lose contributions to Social Security and Medicare, and lose the benefits of unemployment insurance and workers’ compensation. The SJC noted that misclassification imposes significant financial burdens on the federal government and the Commonwealth in lost tax revenues. In addition, employers who misclassify employees as independent contractors have an unfair competitive advantage over employers who correctly classify their employees. The SJC vacated the trial court’s dismissal of the wage claim and remanded the case to the trial court for further proceedings. At trial, if the company is unable to show that the engineer was properly classified as an independent contractor, the engineer will be entitled to damages, including treble damages and attorneys fees, of any lost wages and other benefits denied because of the misclassification. If the engineer is determined to be a nonexempt employee, he would be entitled to any overtime pay, again including treble damages and attorneys fees.

Recent Federal Court Decision

A 2010 federal court decision in the case of Awuah v. Coverall North America, Inc., held that workers, called franchisees, who performed commercial janitorial cleaning services for a commercial cleaning franchising company were misclassified as independent contractors. The franchising company sold franchises, trained and provided administrative support to individual franchisees who performed the cleaning services. The federal court rejected the franchising company’s argument that it was in a separate and distinct franchising business from the cleaning service businesses. The court found that the franchising company could not satisfy the second prong of the independent contractor test (service is performed outside the usual course of the business of the employer) and the employees were entitled to pursue whether the misclassification caused them damages, including treble damages, under the wage and hour statutes.

Increased Enforcement

In addition to individuals pursuing claims for misclassification of workers and wage violations, federal and states agencies are stepping up their investigations of employers who misclassify workers as independent contractors and who fail to pay proper wages. The United States Department of Labor is expected to receive $12 million for hiring and training new investigators to detect misclassification of workers as independent contractors according to the proposed 2011 budget. The proposed budget also includes a joint proposal by the Departments of Labor and Treasury, called the Employee Misclassification Initiative, that will grant increased authority to both agencies to penalize employers who misclassify employees and restore protections denied to workers due to improper classifications. According to the Department of Labor, the focus will be on industries where misclassifications are most prevalent, such as construction, child care, home health care, grocery stores, janitorial, business services, poultry and meat processing, and landscaping.

There is also legislation currently pending in the United States Senate (The Taxpayer Responsibility, Accountability, and Consistency Act) that would make it more difficult for employers to classify employees as independent contractors for employment tax purposes. The bill, introduced by Senator John Kerry, would restrict the application of the safe harbor provision of the Internal Revenue Code, which currently allows an employer to designate an employee as an independent contractor for employment tax purposes, even if the worker did not meet the requirements of an independent contractor, unless the employer has no reasonable basis for this treatment.

On the state level, in March 2010, the Massachusetts Attorney General’s office reached a settlement with a former Brockton construction company for its failure to pay the proper rate of overtime pay. The construction company paid restitution to 129 former and current employees and a $20,000 penalty to the Commonwealth of Massachusetts. A self-audit of the company’s payroll records revealed that the employer had failed unintentionally to pay its employees time-and-a half for overtime hours worked between July 2006 and May 2008.

Employers must be vigilant in ensuring payment of proper wages and proper classification of workers in order to avoid the mandatory treble damages under Massachusetts law that result from such misclassification or failure to pay wages properly. To be ready for any federal or state investigations, employers should review their job classifications and wage payment policies to ensure that they are in compliance with federal and state wage and hour laws.

If you have any questions regarding classification of workers or other wage and hour laws, please contact your regular BRG attorney or you can contact Mary Jo Kennedy, who is the Coordinator of the Employment Law Practice Group and in our Springfield office, or Carol Kamm in our Boston office. Mary Jo can be reached at (413) 272-6242 or [email protected] and Carol can be reached at (617) 368-2502 or [email protected].