Myths about IC/C2C Compliance in the US Staffing Market

You find a candidate for a client. The candidate tells you they have an LLC and want to do the job as an independent contractor (“IC”). The margins are substantially better with an IC (no employment burdens), so you accept. For many recruitment industry professionals, this is as deep as the analysis goes, and it highlights some common myths in IC classification. So here are some of the most common myths in classifying independent contractors in the US staffing market

Myth 1: Candidates can always choose to classify themselves as independent contractors

One of the biggest misconceptions in IC classification is the idea that the candidate herself can decide whether to be an independent contractor. A corollary to this myth is that candidates can sign a contract, waiving their rights. This is wrong on both federal and state levels. The facts of the working relationship determine whether a person should be classified as an employee. On a federal level, the IRS has a set of guidelines that determine whether a person can be classified as an IC. The basic rule is that in an independent contractor relationship, the payer cannot control how a person does their work, only the outcome of the work. If the client controls how the candidate does their work (e.g. they need to come into the office, they need to follow specific guidelines, they have a supervisor), then it’s likely an employee relationship.

On a state level, these rules are sometimes stricter. There are two other tests in the states that use the “ABC” test, such as California. Not only should the business not control the person’s work, but the worker must be doing work outside the company’s ordinary course of business. For example, if a coffee shop hires a plumber to fix a sink, the plumber is not part of the day-to-day operations of the coffee shop. A barista, however, is part of the business's day-to-day operations to earn money. Next, the worker must have an independent company in the type of work being performed. This means the worker sells their services to many clients outside of the relationship. So, if the candidate works for one client for long periods and not multiple clients at any given time, they would likely be violating this principle.

The US Department of Labor also recently issued a new rule that factors other items similar to the ABC test, such as the extent to which the work is integral to the business, and others, such as whether the relationship is permanent or indeterminate. For instance, the more permanent a position, the more likely it’s a W-2 job.

Myth 2: If a candidate has a business entity, they can automatically be classified as an independent contractor

Like myth 1, whether the candidate has a business entity does not in itself mean the person can be classified as an independent contractor. Instead, the facts of the case at hand govern. If the client controls how the candidate is supposed to do their job (providing equipment, mandating their schedule, etc.), whether the candidate has an LLC is irrelevant. Indeed, if all you needed were an LLC, then the regulation would be meaningless since anyone could set up a business entity. Or, more likely, non-compliant employers would assist the workers in setting up LLCs, bypassing thousands in taxes and regulations with a few hundred dollars. Having an LLC helps corroborate that a person indeed has an independent business outside of the client relationship. However, this fact will be taken into account in the context of the relationship. If the entity is new, there are no other real clients, there is no website or insurance, the government will not be fooled.

Myth 3: If a candidate has been working as an IC before, they can safely be considered an IC

Wrong. Unfortunately, the facts of the current case govern. We see this logic error with many of our customers. They will say that a person has worked as an IC before or that they typically do this arrangement. It doesn’t matter. What matters is whether the client has control over this particular assignment and potentially other factors like the ABC test, depending on the state.

Myth 4: As long as the candidate is remote and works their own schedule with their own equipment, they can be classified as an IC

Similar to the idea that having an entity automatically allows the candidate to be an IC, many recruiters think that when a candidate works remotely, on their own computer, they can be classified as an IC. This is wrong. What matters is the degree of control the client has over the worker. Being remote and using their own equipment are two pieces of evidence that show the worker possibly has more control over their work, but these facts do not in themselves make the worker an independent contractor.

Myth 4: The 1099-NEC tax form is only for individuals without an entity

We hear this one from UK recruitment agencies all the time, which makes sense since they are less familiar with US tax law. In the US, any time a recruitment agency pays a non-employee IC worker over $600 a year, the agency must send the worker a Form 1099-NEC at the end of the year unless they qualify for an exemption. It does not matter if the person has a business entity or not. What matters is the type of entity they are using and how they’ve elected to tax it. If the worker is working under a C or S Corporation, usually no 1099 is required. However, if it’s a single-member LLC or an LLC taxed as a partnership, then a 1099 is required. If the worker has an LLC but it’s being taxed as a C or S Corporation, then a 1099 is not required. How would you find answers to these questions? You can get this information by having the candidate fill out a W-9 Form.

Myth 5: ICs will not incur workers' compensation risk

This is less of a risk in office work such as IT or finance but occurs frequently in the light industrial, healthcare, or other gig economy-type jobs where workers are classified as ICs. If an IC worker is injured on the job and it turns out they were misclassified, they can file a workers' compensation claim against the client. This is why some larger clients will enforce that all independent contractors hold their own workers’ compensation insurance, even in low-risk areas such as IT. There are some gig economy platforms that try to get around this risk with Occupational Accident Insurance, but this requires careful structuring and potentially significant unforeseen liabilities.

Myth 6: End Clients will not be liable for IC compliance missteps

End clients will often be liable for IC compliance issues such as overtime, injuries, and other compliance matters, especially if they have deep pockets. The worst way to ruin a client relationship would be to expose them to an audit or other litigation for your ICs. Many clients and virtually all larger clients will require you to indemnify them for misclassification fines or legal fees, so your staffing firm will ultimately bear the risk.

Conclusion

The biggest misconception about classifying ICs in the US market is that there are bright-line rules. There are not. Classifying a worker correctly requires weighing many factors that are specific to the situation at hand. Control of the worker is paramount, as is the degree to which job activity is part of the client's operations, and it’s vital that an independent contractor truly has an independent business operation, not dependent on any particular client. A labor or staffing lawyer can guide you on how to classify workers, or you can use a company like my own, Ascen, which provides classification services, agent of record (insulating you from the risk of misclassification), and payments. If you try to classify on your own, just remember to err on the side of caution: by default, most workers should be W-2. If there is any doubt, it’s better to be safe than sorry, given the risks.

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