A yearlong McClatchy public-records investigation of government construction projects spanning 28 states discovered widespread misclassification of construction workers as independent contractors instead of employees (News & Observer, September 8, 2014). By misclassifying their employees, construction companies were able to undercut their law-abiding competitors while at the same time exploiting those desperate for work. As a result, the study found that North Carolina loses approximately $467 million per year in tax revenue from construction firms and their employees.
Such a scam is simple. Companies declare that hourly wage earners working for them are independent subcontractors, not employees. These companies do not withhold income tax or file payroll taxes on those workers. They also do not pay unemployment tax and are not required to provide workers’ compensation insurance. Thus, there is less paperwork and more profit for the companies. The McClatchy investigation estimated that these companies can save 20% in labor costs by treating employees as independent contractors.
Misclassification has far-reaching effects. The investigation discovered that these cheaters:
(1) ignored existing labor laws and the IRS by misclassifying employees;
(2) undercut the bids of law-abiding companies;
(3) cheated workers by eliminating unemployment insurance, workers’ compensation coverage and social security payments;
(4) benefited from lax government officials who could have stopped them.