In our last edition we began our review of freelancer driven misclassification inquiries and claims by diving deep on economic dependency.

The reason employee classification screening focuses so heavily on identifying a freelancer’s economic dependency on a single client - that’s across the board, not just Bubty Compliance Services - is the risk that the IC status will be challenged by the freelancer via a filed claim for unemployment insurance coverage when the IC engagement is terminated.

In the evolving US workforce landscape (and global workforce to a certain extent), claims for unemployment insurance are emerging as a significant and nearly uncontrollable challenge to what would otherwise be a proper and defensible IC classification.  

When a claim of employee misclassification is found to be full of holes and compliance gaps that suggest poor freelancer management practices or nonexistent compliance screening, then we can kindly look at that situation as an ‘opportunity for improvement.’

Or, we can more cynically point fingers and blame company management for not taking the simple precautions to guard against unnecessary employee misclassification risks.

The feedback loop each of us might take is a personal decision that we will not attempt to explore here.

But what happens when management has taken all the necessary precautions and has conducted a thorough and thoughtful assessment that renders an accurate independent contractor determination that still winds up being reclassified to an employer-employee relationship by the courts?

How can this be?

Rule: Independent contractors are ineligible for unemployment compensation

Unemployment insurance is a benefit that provides temporary financial assistance to employees who have been laid off through no fault of their own.

Employers pay into the unemployment fund with a portion of the wages paid to their employees.

The employer taxes are called FUTA (Federal Unemployment Tax Act) and SUTA (State Unemployment Tax Act) taxes.

However, companies are not required to pay FUTA and SUTA taxes on the payments they make to independent contractors.

Further, independent contractors are not required to pay FUTA and SUTA taxes because as self-employed workers they are not required to do so. 

Like every rule, there are exceptions!

Exceptions to the Rule

• Pandemic Unemployment Assistance (PUA): The federal CARES Act was passed into law during the COVID-19 pandemic and created a temporary program called Pandemic Unemployment Assistance.

  
  

  This program specifically provided unemployment benefits to self-employed workers, independent contractors, and gig workers, who lost work due to the pandemic.

  
  

  This population lost this short-lived access to unemployment assistance in 2021 when PUA expired. 

  
  

• Disaster Unemployment Assistance (DUA): A separate federal program referred to as DUA can also provide temporary unemployment benefits to the ineligible population in the event of a presidentially declared major disaster.

  
  

  This program protects independent contractors who lose their income source as a direct result of the declared disaster.

  
  

• The S-Corp Election: A proactive approach independent contractors can take to become eligible for unemployment benefits - without having to wait for or rely on a disaster - is to form their business as an S-Corporation or LLC that takes the S-Corp election for tax purposes.

  
  

  This option is not only something for freelancers to consider as a business management strategy, but a factor that can weigh in nicely when companies are conducting employee classification screening on freelancer engagements. 

  
  

• Misclassification: If a worker is incorrectly classified as an independent contractor but legally should be considered an employee based on the level of control the hiring entity has over their work (e.g., they dictate when, where, and how the work is performed, provide training, supervise, etc.), they may be eligible for unemployment benefits.

  
  

  In such cases, the "employer" may have been improperly avoiding employment taxes and obligations.

Unemployment-driven Misclassification Case Examples

Recalling our prior focus on economic dependency as a factor that can be identified as a risk during IC compliance screening and how the associated risk can be mitigated, we now turn our attention to the act of ICs filing of unemployment insurance claims whether economic dependency is a driving factor or not.

There are numerous claims of misclassification that started out as unemployment insurance claims by workers engaged as independent contractors.

Three such cases, in the event you want to read the details, are Milano's v. Kansas Department of Labor,  In re Vega against Postmates, Inc., and Gregory Mitchell vs. The Nation.

We will take a closer look at these cases in a later issue when we turn our attention to findings of fact, which all of these cases cite for the reclassification of the claimant workers from independent contractors to employee status. 

What’s the real trigger? The unemployment insurance claim or the IC termination?

Independent contractors (or employees for that matter) don’t file for unemployment unless they have been terminated.

This is an instructive and logical acknowledgement that unemployment claims filed by ICs cannot be controlled by the hiring company, but terminations of IC engagements can be.

The importance here is twofold:

1. Know your ICs.

   
   

   Understanding the status and satisfaction of your IC throughout the engagement is always good practice.

   
   

   Knowing how your IC is doing - satisfaction with the work and how your company has treated them - can be especially insightful prior to and upon termination.

   
   

   The more interactions and two-way communications a company (hiring manager, program office, etc) has with ICs not only makes your company a “client-of-choice” among freelancers, it can also reveal indicators of potential future claims of unemployment insurance claims.  

   
   

2. Terminate with care.

   
   

   When and how you terminate IC engagements matters.

   
   

   Early terminations, for any number of legitimate reasons, can still surprise a freelancer and potentially put them in a temporary income bind.

   
   

   It is important to know you ICs (see #1 above) and communicate notice of early termination as soon as possible and to do so thoughtfully.

   
   

   For instance, a short, abrupt email notifying the freelancer that an engagement that was supposed to last another 3 months is now being shut down with the bare minimum notice will likely not be well received.

   
   

   Conversely, a scheduled phone call to deliver the notice live with an accompanying explanation and opportunity for questions will go a long way towards establishing and maintaining good will. 

Conclusion

Structuring IC compliance screening to identify economic dependence is a highly recommended means to avoiding misclassification risk due to unemployment compensation claims.

When economic dependence is not evident the risk of employee misclassification uncovered via adjudication of unemployment compensation claims still exists.

While hiring entities cannot easily control IC claims to seek unemployment insurance benefits, they can control the relationship they have with their ICs and they can control how and when IC engagements are terminated. 

Next Issue

In our next issue of The Compliance Capsule we will take a closer look at another difficult to control contractor behavior: workers compensation claims.

Until next Wednesday, stay compliant and be happy.