Oil & Water: Workers' Compensation and Contractors

03/06/07

The Case
“We’ve got a big problem.” said Art, VP for administration.

“What’s up?” asked Pat, the CEO.

“A contractor got injured at our Washington Avenue site. He slipped on an oil patch near where he parks. Fractured his hip and needs lots of rehab. Anyway, he said he didn’t have any insurance but that our workers’ comp policy should cover the injury, so he reported it and…

“Whoa,” said Pat. “Slow down. What kind of contractor is he?”

“He’s a compensation analyst who does a lot of work for us,” replied Art.

“He’s a consultant? How can a consultant make a worker’ comp claim anyway? Isn’t his business incorporated?”

“Apparently not,” said Art. “And as I said, he doesn’t have any health insurance. I told him he wasn’t covered under our workers’ comp policies, because he’s not an employee. He reported the accident to the state workers’ comp board anyway. It said we’d have to cover the accident because, in their view, we’re actually the employers. So I talked to our workers’ comp carrier, and they’re refusing to cover the accident because we didn’t have the guy on our policy. What does this mean for us?” asked Pat.

“We may have to cover the healthcare costs for the accident ourselves. And it looks like it’ll be upwards of $75,000.”

“I can’t believe this,” said Pat. “There’s no way we can be considered the man’s employer.” As he strode away, he thought, “at least I hope not. I better call our attorney to get her opinion.”

The Analysis
The employer in this case may not have much going in its favor. It’s very important to classify workers properly as employees or independent contractors. If you don’t, the consequences can be severe.

This is especially true when it comes to workers’ compensation. Many states have different, and sometimes more stringent, requirements than the federal government when it comes to classifying workers as employees or independents.

Increased Liability
In most states, there is huge risk in misclassifying workers under the workers’ compensation laws. That’s because workers’ compensation insurance affords employers a substantial degree of indemnification from suit when the workers are employees.

Workers’ comp is, in most situations, an employee’s sole remedy against an employer for a work related injury or illness. An injured employee, in most cases, does not have a private right of action against the employer and can only “go after” the employer through the comp system. The remedies available are those that the workers’ comp statute provides for, such as lost wages, paid health care for the injury or illness, etc. Unlike a private lawsuit, there’s no way to “score big”—punitive damages are very rarely available against one’s employer for work-related injuries or illnesses.

However, if the employer has misclassified the worker as an independent contractor when in reality the relationship was employer-employee, and the worker is severely injured in the course of performing work for the employer, the employer’s comp carrier is likely to say, “you’re on your own with this one, buddy,” and may refuse to cover. The employer can end up paying out of pocket. Moreover, the individual may be free to seek damages against the employer that would not be available through the workers’ comp system, and this can cost the employer big time.

Consider Contesting the Decision
The employer in this case has little choice but to contest the classification the workers’ comp board handed down—assuming the facts warrant the fight. Probably the best thing the employer can do first is to get advice from a competent attorney, explaining in as much detail as possible what the relationship between the parties looked like—how the contractor was paid (e.g., hourly or by the job), the nature of the work, how much direction he received from company management, whether there was a written independent contractor agreement, and any other relevant factors. Then an informed decision can be made whether it makes sense to fight the determination or simply pay the hospital bills. Either way, it’s not likely to be cheap for the employer.

How to Handle This Problem
As you can see, whether you have safely classified a worker as an independent contractor turns not just on IRS and Department of Labor guidelines, but also on the workers’ compensation laws in your state. It’s essential that you know what they are. You’ll sleep better at night. The Web sites of most state governments detail workers’ comp laws for employers. Your employment attorney can also brief you on this subject. Complying with the law is your best protection against unforeseen liability.

This employer can, going forward, also take one significant step to protect itself. It should consider requiring that those workers whom it classifies as “independents” show proof of their own insurance coverage and coverage for any employees whom the contractor employs, if they will be performing work for the employer.

As a practical matter, however, this can make life difficult for all parties. In many states, it’s often prohibitively expensive for one individual to get workers’ comp insurance on himself, so often the worker will take his services elsewhere rather than attempt to obtain the insurance. In that case, the employer will find itself in the undesirable position of having to choose between not utilizing the person’s services or using them and assuming an element of risk.

One way to minimize, if not eliminate, the risk, is to ensure that, to the greatest extent possible, the relationship between the employer and would-be contractor looks like a true independent contractor relationship. This means knowing the criteria for classifying workers based on your state’s workers’ comp laws, and then making the relationship fit the criteria to the greatest extent possible.

This might include, for example, ensuring that the parties have a written independent contractor agreement, requiring the worker to have a federal tax ID number and/or incorporate him or herself, issuing a Form 1099 for tax purposes, requiring the worker to carry specific insurance on himself and any of his employees, and any number of other state-specific criteria. The more factors an employer can establish in favor of independent status, the better.

Finally, remember that just having a written agreement alone won’t prove the worker is an independent contractor. In addition, if the written agreement and the actual relationship between the parties differ, courts (and the IRS and DOL) make their determinations based upon the actual relationship—not what the document says.