It’s a common assumption when hiring independent contractors that independent contractors should be paid by the project, and not by the hour. It’s therefore common for businesses that hire independent contractors to not track or ask independent contractors for hours worked. Indeed, it’s a point of pride for both businesses and independent contractors to not work based on time cards: “Nah…we don’t do time cards in these parts,” is how I imagine that conversation would go.😊
But can this come back to bite you? Yes…and we see it frequently. Here’s the typical scenario where not keeping time records can be a costly mistake:
Let’s say you’re operating a business that hires many independent contractors. Because they’re independent contractors, you ask for invoices, of course, but you don’t require them to keep time records. After a few years of being in business, you get selected for an audit by the Washington State Department of Labor & Industries (L&I). During the audit, L&I performs its independent contractor test and determines that you failed one or more parts of the 6-7 part independent contractor test. And as a result, L&I considers your independent contractors to be employees/covered workers, and then goes about its business of assessing back taxes.
As you may know, in order to assess back taxes, L&I will look at time records and will charge back taxes based on the number of hours independent contractors worked. But, in your case, you’ve not had a system of tracking hours worked in any way, and so there are no time records for L&I to review to accurately make its assessment. And when L&I doesn’t have time records, its only recourse is to assess premiums based on its formula (the Average Hourly Wage formula) for estimating hours. I won’t discuss the AHW formula here, since that will be a distraction from the point I mean to make. But it’s sufficient to say that under L&I’s formula for estimating hours, it will often be the case that L&I’s calculations will overestimate the number of hours worked by the contractor, and sometimes substantially so. And if you haven’t kept any records needed for L&I to have raw numbers to apply it’s formula, the auditor is authorized to assess maximum hours, which could easily result in you being assessed the maximum of 520 hours per quarter (across multiple quarters) for an independent contractor who only worked a small fraction of the max hours.
Bottomline, not having/keeping time records can substantially increase the amount of an L&I assessment. Indeed, it’s not uncommon for us to see a business get a $100k assessment (once penalties and interest are added) for an infraction that should have been $40,000 had the business kept time records.
A good best practice is the following: If you’re working with independent contractors who don’t have their own employees and who therefore aren’t guaranteed to be exempt from L&I taxes, it will often be in your best interest to implement a timekeeping system that will provide records to use in the event of an L&I audit and assessment. Without these records, you’ll be left to the tender mercies of L&I’s AHW formula, or L&I’s power to estimate maximum hours per quarter.
