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How to protect your contingent worker payroll program from risk

Dec 01, 2020

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Paying contingent workers brings greater payroll-specific risk into an organization when it comes to legal compliance, rates and budgeting for a contingent workforce payroll program. To mitigate these payroll risks, organizations must maintain workforce management of issues stemming from co-employment, compliance, financial stability and more.

As the world and workplace continues to change, companies on a global scale are increasingly turning to the flexibility of the contingent workforce in order to find innovative ways to achieve cost savings, increase business efficiencies and perform competitively in an uncertain economy. Engaging contingent workers, like independent contractors, is a popular strategy for organizations to reach business goals. In fact, Gartner research firm finds 32 per cent of organizations are replacing full time employees with independent contractors as a cost savings measure.

However, while the contingent workforce comes with many benefits, contingent workers also bring increased risk into an organization's contingent labor payroll program.

What is contingent worker payroll?

Contingent worker payroll is a managed service whereby an organization can outsource all the business process functions related to the management of its directly sourced contingent workers in order to achieve risk mitigation, increase business process optimization and reduce costs.  ​​This payroll program is separate from the payroll program for traditional employees.

What functions does a contingent worker payroll provider perform?

A contingent worker payroll provider should provide a dedicated payroll contract management infrastructure (consisting of key team members, process and technology) to ensure compliance (regulatory and client policies), process standardization and customer service on each individual contract.​ A payroll provider should perform the following functions:

Classification
Independent contractor background checks
Independent contractor contract negotiation, rate negotiation and reduction
Time tracking, contract payment and client invoicing
HR liability
Contract terminations
Document management
Audit ready
Reporting

While performing these functions, a contingent workforce payroll provider should build a program that delivers:​

Comprehensive risk management and compliance enforcement measures, consistently applied across the program. 

Hard dollar cost savings and soft dollar benefits from program efficiency and outsourcing​.

Significant transparency to enhance business management oversight​.

Contingent workforce Payroll: Here's what you need to know

As the use of contingent workers continues to rise, so too, do the many risks associated with paying contingent labor, yet risk is one of the most talked about but least understood areas in contingent workforce management.

Building a framework for effective payroll-specific risk management requires solid cooperation between an organization’s HR, legal and procurement teams, along with training and support for individual hiring managers and management.

Understanding contingent worker payroll risk

When determining whether an individual is a full time employee or an Independent Contractor, the Internal Revenue Service (IRS) has mandated that employers must prove the type of business relationship that exists. This determination will have an impact on your programs and workforce.

Effective risk management starts with a shared language about each risk employers face when engaging and paying contingent workers. Below is a brief overview of contingent workforce language as it relates to payroll-specific risks organizations face:

Identification

Engaging Independent Contractors also brings risks associated with unintended co-employment and relationship misclassification. The determination of whether a workers are employees or a contingent workers depends upon whether or not a "employer-employee" relationship exists between the payer and the payee.  Two keys factors involved in making this determination are the amount of control and independence in the relationship.

Specifically, contingent workers are self-employed, while employees work for the organization.

Misclassification

Misclassification happens when a company incorrectly identifies the relationship that exists between them and the contingent worker. This serious mistake can result in hefty penalties for the company and back payments to the worker. Most organizations focus exclusively on 1099 or independent contractor classification; however, there are other important classification influencers such as overtime eligibility (Fair Labor Standards Act (FLSA) classification) and position classification for workers’ compensation coverage.

Employment Standards Compliance

This risk arises when an organization is assessed based on its failure to comply with employment standards obligations.If the company is deemed to be the employer of record for its contingent worker(s), fines and other penalties can and often do apply.

Specific risks and liability vary based on applicable state and federal legislation, but payroll tax compliance, overtime compliance and liability for termination pay are all hot button issues that require special attention. This is especially true following a recent trend for ‘joint employer’ obligations between clients and their vendor firms. It’s important to note that many of these items overlap with the obligations a company already manages with its own employee workforce. This specifically applies to issues arising through vicarious liability to its contractor workforce, or problematic interactions between its employee and contractor workforces.

Financial Irregularities

The repetitive, high transaction volume of most contingent labor relationships makes it vulnerable to many financial irregularities. These can include accidental double invoicing mistakes or more calculated invoice inflation or over-billing schemes with these types of workers. An organization’s regular financial controls play an important role in risk management and workforce management. When it comes to contingent labor, monitoring the many influences can be challenging and requires specialized skills for effective management.

Co-employment indemnification

Co-employment risk is the term used to refer to situations where two or more organizations exert some level of control over a temporary worker, and are therefore considered to have employer obligations toward the employee. This risk can often exist when organizations use staff that are provided by third parties.

This concept is captured under the legal term of ‘Joint Employer’ and can arise under of variety of situations including misclassification/reclassification of the legal relationship to temporary workers, as well situations involving the assigned personnel (employees) of a temporary help or staffing agency where the client controls significant aspects of their work. Potential obligations that arise under this situation could include statutory remittances (such as income tax), responsibility for workplace safety obligations, payment of employee entitlements (such as sick pay, vacation pay and/or overtime), as well as termination compensation and other items. Specific risk drivers of incurring co-employment liability depend on the facts of a given worker relationship and the practices of a company's supplier, evaluated in the context of applicable state and/or federal legislation (FLSA, NLRB, EEOC, FMLA and OFCCP all potentially apply).

Taxes and government remittences

Temporary workers are not employees; therefore, employers are not responsible for the withholding, collecting or paying of the Independent Contractor’s taxes nor any other payments. These types of workers are also not entitled to workers compensation.

Mitigating risks with a trusted vendor partner

Many organizations choose to outsource their employer responsibilities like contingent workers' payroll to a trusted vendor, like a staffing agency or a Managed Services Provider (MSP), who will manage workers’ payroll as well as provide support during the length of a worker’s assignment(s).

Further to payroll management, the staffing agency or MSP will also identify and implement internal measures to protect the organization from serious risks associated with a contingent workforce if found in violation of compliance. Penalties for companies found in non-compliance are severe and typically result in fines, penalties and negative employer branding. 

Achieving cost savings

However, it’s common for many organizations to think it’s better to let their own HR and accounting departments handle independent contractors' payroll rather than engage the services of a staffing agency or MSP. Yet payroll stats disagree, stating companies that outsource contractors' payroll save 18 per cent on costs over organizations that tackle paying theses workers themselves.  

Outsourcing contingent contractors' payroll to a staffing agency or an MSP not only gains access to the types of technologies and expertise that reduces overall cost and risks associated with operating a contingent workforce and payroll programs, it also frees up time for employers to focus on their organization’s core business objectives.

Depending on your contingent workforce payroll needs, there are various options available to employers, yet there is no scenario that is completely risk free; whichever model your organization chooses, it’s crucial to know the benefits and risks associated with each.

Are you interested in gaining deeper insights into payroll programs and risk?

Download our free case study to learn how we helped one client partner achieve cost savings and ensure compliance with their contingent worker program:

Download Case Study

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