Contractor Laws State-By-State

Contractor Laws State-By-State

Hi friend! A quick note. I'm writing this blog day-by-day, state-by-state. Why? Because that's a much more palatable way for me to go about such an undertaking.

I'll kick this party off with some general, important info before we dive into specifics for each state.

Why We Care

Misclassification of employees as contractors is a heavily litigated and high risk area of the law,. Employees have a lot of skin in the game because being misclassified effects their taxes, disability, social security, and other employment benefits. Many, many contractors are intentionally misclassified by employers. Courts are cracking down, and the rules are getting stricter (in some states). To stay in compliance and avoid lawsuits and penalties, it’s important to stay on top of the law. Many creatives are in an odd position because the laws are coming down on large businesses who intentionally misclassify workers, and those laws are over-broad, sweeping thousands of small business owners into the new framework.

The Interested Parties

Who really cares about this issue? TBH, you may not care who cares, but understanding these finer points will help you wrap your brain around the whole thing.

The IRS

Our dear friend the IRS cares about anything that could remotely impact tax collection. We all pay taxes on our income. That is simple enough. But why should the IRS care how we receive that income? Like does it matter if we get paid or if we pay people as a contractor or an employee? Answer. Yes.

If you have ever been an employee, you likely had that first well-damn-moment of "If I worked 40 hours and make $10 per hour, why the hell isn't my paycheck for $400!?"

It's the tax withholdings of course. Employers automatically withhold taxes from employees and send those taxes to the IRS. The IRS loves this. There's a very high likelihood they're getting the taxes they are owed.

Contractors on the other hand, not so much. Contractors can be shifty. They may not report all their income, and many employers aren't properly sending 1099s. I won't bother researching that exact data because, well, this is already going to be a cumbersome blog post, but we can assume the IRS loses out on millions in tax revenue each year from contractors.

State Tax Authorities

Most states also collect income tax. The state agencies responsible for collecting those taxes have the same interest as they IRS. They also prefer employees and oftentimes have more resources to pursue action against misclassifying businesses.

 

U.S. Department of Labor

"The Department of Labor administers federal labor laws to guarantee workers' rights to fair, safe, and healthy working conditions, including minimum hourly wage and overtime pay, protection against employment discrimination, and unemployment insurance."

State Departments of Labor

Each state has their own department of labor. Employment law varies greatly by state. As you likely know, each state has a different minimum wage and different policies when it comes to various employee benefits. 

The Workers & The Businesses

There are pros and cons to being a contractor or an employee. From a worker perspective, being a contractor allows more freedom and flexibility. Contractors also get to take more tax deductions. Yay! But on the flip side, contractors do, and typically should, have more out-of-pockect expenses and are responsible for a higher share of taxes.

Businesses may prefer to hire contractors because it's a simpler process and may be less expense. I say "may" because the taxes will certainly be less, as well as benefits. However, contractors may demand a higher highly rate. Also, an employee may be more vested in the company and a better long term investment.

Businesses also have more control over employees, which can be great for a number of things.

 

Different Laws for Different Circumstances

As you can see there are several vested interests involved when it comes to employment issues, and we have different rules for different circumstances.

For example, one set of rules may apply when it comes to tax withholdings for the IRS. Another set of rules may apply at the state level in consideration of employment benefits.

The IRS has the lowest standard. It's the easiest to meet rule. Meaning, their test is the most business friendly.

Many states have more stringent rules that make it more difficult to work with contractors. If you meet the state rules, you shouldn't have trouble with the IRS.

For this reason, isn't simplest to first and foremost focus the state requirements.

 

Which State Laws Matter?

Most of us erroneously look at the contractor laws in our own state and call it a day.

States pass laws to protects the residents of that state. You therefore need to be on top of the state laws in each state where you have or plan to have contractors. For example, if I, a business owner in California, hire a virtual assistant who lives and works in Florida, I need to know that person can work as a contractor under Florida law.

 

The Different Tests

Most states will fall into one of three camps. I call them the . . .

(1) The Totality of the Circumstances States;

(2) The ABC Test States; and

(3) The Modified ABC Test States.

Camp 1 - The Totality of the Circumstances States

In camp one, we have states that use the "Common Law Test" or the IRS Test.

These are what us attorneys call a totality of the circumstances test.

Let's look at some potential analogies (I'm writing this while watching RuPaul's Drag Race Down Under).

Ru says that that the next drag super start must have:

Charisma, uniqueness, nerve, and talent. Pretty clear right? But what if all three finalists have each of these four traits? How about if each has just three or two of the four?

It's a silly example, but think about it. The judges are going to weigh all the factors. Maybe one queen has three factors, but the charisma is off the charts. She'd make a compelling case to be the next drag super star.

This is the essence of a totality of the circumstances test. Here's another example.

Currently, athletes are gearing up for the Tokyo Olympics. Unlike Track & Field or Swimming, where athletes make the Olympics simply by being the fastest, athletes in team sports are chosen by committee.

It'd be easy for the gymnastics selection committee to simply choose the four gymnasts with the highest total scores at the qualifying competition. But it doesn't work like that. While there are four members, only three compete in each event at the olympics. Therefore, someone could maybe be the second best overall gymnast while having the fourth highest score in each of the four events. This person might not be the best fit for the team.

Instead, the committee will look at team composition. And in looking at each athlete, they will consider their event strengths, how difficult their routines are - since difficulty equates to a higher score - as well as their consistency, experience, and so forth. There's no simple rubric or checklist. The committee must look at the totality of the circumstances and make a choice.

Fun fact, McKayla Maroney was selected for the 2012 Olympic Team solely to compete on the vault. She was so good she'd regularly score 0.5 points above everyone else in the world on that event. When medals are won by tenths of a point, that's a huge advantage.

When analyzing a totality of the circumstances test, there may be certain factors that really tip the scales, like MicKayla's vault. A person can argue that while they don't meet all these factors over here, they do meet the others which should be more heavily weighted.

Ultimately, it's the judge's decision whether a worker or an employee or a contractor based on the factors.

The Burden of Proof

We have one added wrinkle. Most legal claims place the burden on one of the parties to prove their claims. My husband is a prosecutor. When he charges someone with a crime, it's generally his/his offices' burden to prove the defendant committed the crime. If the prosecutor can't demonstrate that proof through solid evidence, the defendant walks free. This supports our assumption in the U.S. that people are innocent until proven guilty.

Under the common law and IRS tests the burden of proof is on the worker or whomever is bringing a claim against the hiring entity. If a worker sues their hirer, let's say for employment benefits of some kind, the worker would have the burden of proof to show that under the totality of the circumstances, they should have been an employee. That's a high standard, which is good for the hiring business.

So What are the Factors

Currently, the IRS test looks at three primary categories: behavioral control, financial control, and the type of relationship. I could regurgitate these details, but it's better to go straight to the source. Check out the details on this on page six of this IRS resource.

These three primary categories are relatively new for the IRS. Before this test, they used a 20-factor test, which is simply and typically referred to as the "IRS 20-Factor Test." Interestingly, although the IRS has abandoned this test, many states have recently decided to use it as their own law. If you read that your state follows IRS rules, you should (a) know that there's a lot of similarities and you need not stress too much over the differences, but (b) it's still good to note whether the state is using the three category test or the 20-factor test. For more on the 20 factors, read here.

 

 Camp 2 - The "ABC Test" States

 Rather than using the common law test, many states use what we call they "ABC Test."

Under the ABC test, a worker must meet each of the following to be deemed an independent contractor: 

  1. The worker must be “free from the control and direction of the hirer.”
  2. The worker must “perform work that is outside the usual course of the hiring entity’s business”; and
  3. The worker must “customarily be engaged in an independently established trade, occupation, or business of the same nature as the work performed for the hiring entity.”

I’ll break down these points in a moment. First, we need to hammer home one very important point. The ABC test is what us hip and cool lawyers call a burden shifting test. We discussed the burden of proof under the common law test. The burden there lies with the worker. Under the ABC Test, that burden shifts to the hiring entity.

 

If there’s a dispute as to the worker’s status, it’s the hiring entity’s responsibility to prove that person is a contractor. In other words, that worker is initially presumed to be an employee. It’s the hiring business’s responsibility to prove the worker either meets the ABC test requirements or one of many exceptions.

If you’re thinking “ohh-shit,” that is the correct response.

This why we now must really get our shit together.

Now, that I have sufficiently scared you, let’s dig in a bit more to the A, B, and C’s.

Parts A & C are relatively straightforward, so let’s start there.

Part A

This part looks to the right of control and is similar to the analysis that would have taken place under the old law. I have a separate blog on that law. Dive into that one after you finish this one.

Part C

This part is most easily explained by example. If I, an attorney, contract with someone to take my brand photos, that contractor must be in business as a photographer. The same goes for one photographer who contracts with another photographer to second-shoot an event. The contractor must be “customarily engaged” in the photography business. 

Here’s an example of where Part C becomes a problem. Wednesday is a wedding planner. Their cousin April is in high school and wants a part time job. April doesn’t have a business. April isn’t trying to have a business. If Wednesday hires April to be a day-of-assistant, that would be a violation of Part C.

Part B

Part B is the stickiest issue. What it essentially means is that you can’t hire someone as a contractor if they do the same type of work as you. For example, a photographer couldn’t hire another photographer as a contractor, a graphic design couldn’t hire another designer to assist them as a contractor, you get the picture. 

I could provide examples from case law demonstrating the nuances of “work that is outside the usual course of the hiring entity’s business,” but that’s a pain in ass the for both of us.

Instead, let’s shift focus to the exceptions to the ABC test.

 

Camp - The Modified ABC Test States

"Modified ABC Test" is a term I made up. But it makes a lot of sense. Some states' laws essentially require you just to meet the A&C requirements. Other states require you to meet A + B or C. I actually think these states make a lot of sense. 

Part B is our problematic requirement for most businesses. In California we have dozens of exceptions that allow businesses to get around the ABC test. However, if we look carefully, we can see that they still require businesses to meet parts A&C. Really those exceptions just get businesses out of Part B.

Now, with this general breakdown out of the way, let's start looking at the current laws for each state.

 

Who doesn't love a good visual? If you're curious to learn more about the ABC test in California, download my Framework for a checklist you can follow to better analyze your contractor situation.

Alabama

Test Used - Totality of the Circumstances

On April 19, 2021, Alabama Governor Kay Ivey signed into law House Bill 408, which sets forth a uniform test for IC status in the state. It will become law on July 1, 2021. The Alabama statute requires the Alabama Department of Labor and its Department of Revenue to use the 20-factor IRS common law test for determining independent contractor status.

Alaska

Test Used - ABC Test

Workers will be considered employees unless: "(a) the individual has been and will continue to be free from control and direction in connection with the performance of the service, both under the individual's contract for the performance of service and in fact; (b) the service is performed either outside the usual course of business for which the service is performed or is performed outside of all the places of business of the enterprise for which the service is performed; and (c) 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."

Here's a bit more info on Alaska's test.

Arizona

Test Used - Totality of the Circumstances

Arizona uses a “right to control test.” It’s a totality of the circumstances test similar in form and function to the 20-factor test. Additionally, Arizona has a quirky law that allows hiring businesses to have contractors sign a “declaration of independent business status” or “DIBS” to prove the worker’s status as a contractor. The DIBS has several, manageable requirements, but it’s important to note that a DIBS won’t help a business get around any federal laws.

Arkansas

Test Used - Totality of the Circumstances

In April of 2019, Arkansas passed HB1850, the "Empower Independent Contractors Act of 2019." The law adopted the  IRS "20 factor test."

Prior to HB1850, Arkansas used the ABC test for unemployment insurance purposes.

California

Test Used - ABC Test

Back in April of 2018, the Supreme Court of California in a case called Dynamex. The result was 80 pages of fun that completely reshaped the state’s employment laws and implemented the ABC test.

Since, the legislature has codified this test and applied it to all areas of employment law. There are dozens of carves and exceptions to the test for various industries.

To learn more about each of these carveouts, check out my blog post on California's contractor laws.

Colorado

Test Used - Modified ABC Test

Colorado uses a modified ABC test. They only requires Parts A&C. The individual must be free from control and direction of the hiring entity in the performance of services, both under contract and in fact, and that the individual must be customarily engaged in an independent trade, occupation, profession or business related to the work performed. Learn more here.

Connecticut

Test Used - ABC Test (Sometimes)

Connecticut uses the ABC for purposes of unemployment. Here's some additional notes from the state. Factor A, which incorporates many of the common law factors will not be satisfied if the person for whom the service is performed retains the right to exercise direction and control over the service, even when the right is not used. Also, bear in mind that an individual who forms a business in response to an offer of work as an independent contractor will not meet the "customarily engaged" or the "independently established" criteria of test C. Check here for more info.

Delaware

Test Used - ABC Test (Sometimes)

Delaware was a bit tricky to pin down. Some sources say it used the common law “right to control test,” but it appears they also use the ABC test at least with respect to their unemployment code. Some states use the ABC only with regard to certain areas of employment law.

DC

Test Used - Totality of the Circumstances

DC uses the “right to control test,” which is one of the totality of the circumstances test. However, they appear to use the ABC test specifically within the construction industry. So that’s fun.

Florida

Test Used - Totality of the Circumstances

Florida uses the “right to control test,” which is one of the totality of the circumstances test. Some factors include the amount of control, required skills, amount of time, supply of tools, and whether the work is the same nature as the hiring entity.

Georgia

Test Used - Modified ABC Test

Georgia uses an A&C test for purposes of unemployment insurance. For other purposes Georgia uses a control test, so basically just part A of the ABC test. In short, most business to business arrangements should be ok if there isn’t too much control.

Hawaii

Test Used - ABC Test

Hawaii uses the ABC test for purposes of unemployment compensation. For worker’s compensation and other purposes, they use a control test more closing resembling the 20 factors test.

Idaho

Test Used - Right to Control

Idaho uses the right to control test. This looks to the amount of control, the method of payment, furnishing of major items of equipment, and the right to terminate work without liability.

Illinois

Test Used - ABC Test

Illinois uses the ABC test for unemployment insurance purposes. Under their Unemployment Insurance Act, there are a number of exempted professions.

Indiana

Test Used - ABC Test

Indiana uses the ABC test. In a 2019, the Indiana Supreme Court Case, expanded on the meaning of “usual course of business” (our part B requirement) saying “if a company regularly or continually performs an activity, no matter the scale, it is part of the company’s usual course of business.” New Hampshire & Connecticut use this same definition.

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