The words Place Your Bets on three red dice to illustrate predicWorker misclassification is now a bet-the-company issue.

On February 21, 2004, the Illinois Supreme Court rejected a constitutional challenge to Illinois’s Employee Classification Act (the “ECA”), a law that defines most individuals who perform construction-related services as employees of the company who retains them, even if the relationship is set up as an independent contractor relationship.  Illinois’s ECA is one of the strictest worker misclassification statutes in the country.

Bartlow v. Costigan arose out of a preliminary finding that a small construction firm, Jack’s Roofing, had misclassified 10 workers as independent contractors instead of employees for periods ranging from 8 to 160 days in 2008.  The Illinois Department of Labor calculated a potential penalty for having misclassified these 10 workers as $1.6 Million.  Under the Illinois misclassification law, each day that each worker is misclassified is considered a separate violation, with fines of up to $1,000 for a first offense.  Willful violations result in triple damages.  Subsequent violations double the penalties again.

Facing financial ruin, Jack’s Roofing challenged the law as unconstitutional, making various arguments as to lack of due process and equal protection, as well as arguing that the legislation violated the Illinois Constitution’s special legislation clause because it subjected the construction industry to more stringent employment standards than other industries.

The Illinois Supreme Court rejected all challenges and upheld the law’s validity.

The ECA, like misclassification laws in several other states, imposes an ABC Test for determining whether an individual who performs construction-related services is deemed an employee.  The ECA presumes that any individual performing services is an employee unless the company can prove that (a) the individual is free from the direction and control of the company over the means and manner of performing the services, and (b) the service performed is outside of the usual scope of services performed by the company, and (c) the individual is engaged in an independently established trade or business.

But unlike misclassification laws in most other states, the ECA carries the presumption of employment a step further, beyond just individuals.  Under the ECA, even sole proprietorships and partnerships are deemed individuals subject to the ABC test, unless an additional test is satisfied to show that the sole proprietorship or partnership truly operates as a self-sustaining independent entity.  The additional test requires proof that the entity meets 12 out of 12 factors, including that it that has made a substantial investment in capital beyond ordinary tools and a personal vehicle, that it makes its services available to the general public, that if it hires any additional employees it does so without the contractor’s approval, and that it does not hold itself out to the contractor’s customers as its employee.

Violations of the ECA can be alleged in a complaint to the Department of Labor or in a private right of action – i.e., a civil lawsuit.  The ECA prohibits any attempt to induce an individual to sign a waiver of such rights and designates any attempt to obtain a waiver as a Class C misdemeanor.

Effective January 1, 2014, individual officers or agents who knowingly permit any violation of the Act can be held individually liable.  Criminal penalties may be imposed as well, both on individuals and companies.

Effective January 1, 2014, the ECA also imposes an annual reporting requirement on all companies that make payments to individuals, sole proprietorships, and partnerships who perform construction services for the company, even where the sole proprietorship or partnership is deemed legitimate under the 12-part test.  Such reports must be submitted annually to the Illinois Department of Labor, and the names of all such entities are deemed public information that would be disclosed in response to a Freedom of Information Act request.

The ABC Misclassification Test in Illinois Applies to All Industries, Not Just Construction

Although the ECA and its special rules for testing the legitimacy of sole proprietorships and partnerships apply only to the construction industry (“construction” is defined broadly), the Illinois unemployment compensation laws apply an ABC Test to all industries.  Thus, all companies in Illinois who retain individuals as independent contractors are subject to misclassification claims (and penalties under Illinois unemployment law) unless they can demonstrate compliance with all three prongs of the ABC test described above.  (Part (b) of the ABC test for unemployment purposes is slightly different than under the Employee Classification Act).

State and Federal Misclassification Claims Are a Nationwide Concern, Across All Industries

Worker misclassification is a high priority enforcement issue for state and federal governments, and a multitude of misclassification laws impose substantial penalties for noncompliance.  Several states, including Massachusetts, Connecticut, New Hampshire, New Jersey, New York, and many others, have passed strict misclassification laws and enforce them vigorously.  The states and the federal government continue to escalate their attacks on the use of independent contractor relationships.  Further complicating the matter, federal and state tests for worker misclassification vary significantly, and it is possible for an individual to be deemed an independent contractor under one law but an employee under another.

The federal government applies different misclassification tests to claims brought under wage and hour laws, tax laws, and discrimination laws, and various states impose other tests under their respective unemployment laws, worker compensation laws, or general employment laws.  Sometimes these state laws apply across all industries and sometimes only in certain industries.

More than a dozen states, including Illinois, have also entered into information-sharing agreements with the federal government, which means that a state law investigation or violation can quickly expand into a federal investigation or violation, or vice versa.

The complexity of having different misclassification tests for different laws across multiple jurisdictions presents particular problems for companies that operate in more than one state.

Companies who use non-employee workers to provide services should seek legal assistance in reviewing the nature and scope of these relationships to determine whether they are likely to survive legal scrutiny.

As the Bartlow case demonstrates, potential penalties can be extreme, quickly climbing into the millions of dollars.  Baker Hostetler attorneys regularly assist companies in unraveling and assessing their potential exposure to misclassification claims across multiple jurisdictions and can provide recommendations designed to minimize legal exposure.