The Dangers of Mislabeling an Employee as a “Sub” to Save Money

Having a skilled team behind you in your business is key to success. On the other hand, failure to hire the right people can spell certain disaster for any business, especially a small or medium-sized business with no room for error.

You might be considering to hire a “sub” in an effort to save on what can seem like the insurmountable costs of taking on a new part or full-time employee.

It might look like hiring-on-a-budget, but hiring a sub-contractor can cause problems to your business

After all, filing a 1099 seems a heck of a lot cheaper than paying FUTA, FICA, SUTA and Worker’s Comp taxes and insurance starts to add up the minute an employee draws their first paycheck – and that’s after you’ve spent time and money recruiting and training them!

The problem is that everything – and I do mean everything – needs to work heavily in your favor in order to pull off this cost-saving measure. Most times, business owners are delusional in their classification of subcontractors. Often classifying them as such when they don’t meet the government’s definition in the first place.

And trust me, the IRS and other state and federal tax and employment oversight organizations will know! They most certainly know the definition of one versus the other. And getting caught scheming is more out of your hands than in your control, as it’s not all just about what you do to cover your tracks.

The “sub” is more in control of your destiny than you might think:

1. Workers Comp Claim

Uh oh! You think because they’re a “sub” that you’re free and clear when they fall off a roof – or a roof caves in on them while they’re working? If they are indeed a legitimate sub-contractor who pays their own insurance premiums to the federal government, then you have nothing to worry about.

While the IRS are notorious for nailing you with fines for unpaid taxes, consider that an injury to a mislabeled employee puts you at far greater financial risk. You’re going to have the government, personal injury attorneys, and quite likely plenty of local reporters on your tail. There’s no getting away from any of them if you want to keep your good reputation in check.

2. Unemployment Claim

The “sub” may well agree with how you’ve chosen to label them. They’ll gladly file the 1099 and play nice. That is, until you decide you don’t need them anymore. Then you’re in real trouble!

They start calling and/or making visits to the State UIA office, telling them how long they’ve worked for you, but that you’re refusing to give them their separation packet. Do you think the Staties are going to sit around and let this poor person starve when they’re adamant about being legally entitled to benefits. Heck no! It’s audit time!

3. State Employment Claim

No need to worry about calling the State payroll tax auditor. When the Unemployment office gets wind of your “under the table” misdoings, they’ll call them for you. They’ll start a big old investigation and turn your business upside down, along with putting their feelers out to find all the other mislabeled 1099 employees you have or have had on the roster.

Temporary warehouse worker

4. Over-time underpayment claims

You thought you were so clever hiring on a subcontractor, knowing full well the job would regularly put them over the mandated 40-hour mark for over-time pay. You don’t have to pay over-time rates because they’re not technically your employee, right? If they’re a bunch of cross-border illegals, you might get away with this indefinitely.

However, under slightly more ethical circumstances, if the relationship goes south or the “sub” gets sick of being a pawn in your money-saving scheme, all they have to do is contact a lawyer and you’re through. Lawyers can assess whether they’ll win a case pretty quickly and if they do, the courts will hammer you with not just attorney’s fees, but up to three times the cost of the unpaid over-time due.

5. The IRS

(Cue the gloomy horror movie music now!) You’re done for. The IRS is part of the government and now that one agency knows, the IRS will get wind of your illegal employment practices before the sun sets that day. They’ll calculate all the back-dated FICA and FUTA with-holdings attached to your business and, without blinking, levy all the penalties and fines they see fit.

6. Injury claims from 3rd parties

This one really blindsides a lot of unseasoned business owners – regardless of whether the subcontractor is legitimate or mislabeled. This hurtful punishment to your business doesn’t really involve the government, but rather personal injury attorneys. You know, the kind that work on contingency fees and have eyes and ears all over every hospital in your city looking for victims?

This is worse than a Workers comp claim, as the sky’s the limit when it comes to personal injury claims and the better the lawyer is, the more they’ll soak it to you. You didn’t think they’d waste their time going after the “sub” driving his beat up 1990 Honda Civic with Duct Tape holding the door shut, did you?

Here’s a quick definition of the differences between the two from

An Independent Contractor:

  • Operates under a business name
  • Has his/her own employees
  • Maintains a separate business checking account
  • Advertises his/her business’ services
  • Invoices for work completed
  • Has more than one client
  • Has own tools and sets own hours
  • Keeps business records

An Employee:

  • Performs duties dictated or controlled by others
  • Is given training for work to be done
  • Works for only one employer

Make sure you know the difference!

Make sure you know the differences in classifications of employees before deciding to hire anyone. As you’ve just learned, if you make the wrong move, subcontractors become more of a financial liability to you than it would have cost to hire on an official employee in the first place.