Mark Pestronk
Q: Our travel agency is expanding by adding independent contractors in several states. We are always mindful of the need to avoid anything that could cause a state or federal agency to reclassify the ICs as employees. I have several questions related to our multistate operations. First, do we have to follow the laws of every state where we have an IC, or is it sufficient to follow the law of the state of our agency's headquarters? Second, can we avoid multistate complications by providing, in our IC agreement, that it will be governed by the laws of our headquarters state? Third, I understand that some states are tougher on IC relationships than others, but what would you say are the toughest states? Which are the most lenient? Finally, is there a test that, if we comply, will ensure that we can avoid the risk of reclassification in every state?
A: First, as you probably can guess, you have to follow the law of every state where you have an IC. On the issue of what constitutes a valid IC relationship, the law of the state where your agency is headquartered is less important if you have no ICs there.
Second, if you have a contract clause stating that the law of your headquarters state will govern, don't count on a state auditing agency or a court in another state to follow that clause. Although you should certainly have such a clause in case it is upheld, the chances are good that the auditing agency or court will disregard it to protect local workers.
Third, the toughest states (i.e., the states where IC relationships are most often reclassified) are California, Massachusetts, New York and New Jersey, with Washington state and Oregon close runners-up. On the other end of the spectrum are states such as Texas and Florida.
I don't mean to discourage you from retaining ICs in the tougher states, because a well-structured IC program can probably pass muster in every state as well as under federal rules.
For example, in California you have the so-called ABC test, which is very tough to pass because it requires the host and the IC to be in different businesses. Fortunately, thanks to ASTA, California also has an exception for travel advisors (the so-called AB-5 Test) built right into the law.
The host and the IC can be in the same business if the IC has: a) a business location, which may include a residence, that is separate from the host's location; b) a local business license; c) the right to set his or her own fees; d) the right to set his or her own work hours; e) the right to sell through any registered seller of travel; and f) discretion and independent judgment in the performance of services.
If a relationship cannot pass muster under all six criteria, there is a very strong risk that a California state agency will reclassify the relationship and try to collect a lot of back taxes and penalties.
Finally, no structure is guaranteed to avoid the risk of reclassification in every jurisdiction, so be sure to consult a knowledgeable attorney for further guidance.