The perils of employee classification

One of the battles employment attorneys constantly struggle with is raising awareness about the consequences of misclassifying workers that are technically employees as independent contractors. While these attorneys are concerned about possible penalties from the government or lawsuits from employees, IP attorneys are concerned with a possibly more serious issue – who owns potential “crown jewel” assets of the company.

At the start, it may seem simple and less costly to hire someone as an independent contractor. Classifying someone as an independent contractor versus an employee is enticing to small employers in particular, as the company is not responsible for paying the employers’ share of Social Security taxes, state and local payroll taxes, unemployment, overtime and potentially offering the workers benefits equal to the company’s other “employees.” However, misclassification of employees is costly and not necessarily reserved for small employers: Time Warner, Microsoft and FedEX have all paid millions, if not hundreds of millions, due to incorrectly labeling workers as independent contractors.

As if potential fines and damages are not compelling reasons to pay attention to this issue, there could also be catastrophic effects on a company’s intellectual property rights. We’ve discussed (in a previous column) the issues a company can face when they have another company create or develop creative works on behalf of the company (logos, website content and design, and source code for software developed for the company are examples). 

These same issues are present when a company labels a worker as an independent contractor versus an employee. Under copyright law, when an employee creates a creative work in the course of their employment, the employer is automatically considered the author of the work and holds the rights to the work.

The opposite is true if an independent contractor created the works, that is, the independent contractor is the author and holds the rights to the works. Furthermore, the rights can only be transferred by a written assignment document signed by both parties. If the independent contractor agreement between the company and worker (assuming a written agreement exists) does not contain provisions assigning the ownership of the copyrights to works created by the worker, the company is most likely out of luck.  Additionally, even if the worker is clearly an employee under the law, the company will most likely be estopped from arguing that the worker is anything other than an independent contractor.

This can be of serious consequence for a company that treats workers that probably should be employees as independent contractors, especially when the workers are responsible for creating intellectual property that is protected under copyright law, such as computer software or the copyrights to the company’s logo.  A decision to save a few bucks on taxes could very well mean that a company is not the owner of key technology that its business is based upon or potentially worse — in certain situations the contractor may be able to license the works to the company’s competitors.

None of this confusion or potential loss of valuable intellectual property need ever happen, of course. Have this conversation internally and with a well-versed IP attorney at the start of hiring and staffing; revisit it when replacing personnel, particularly creative personnel.

Time Warner’s and Microsoft’s experiences illustrate that the time-worn adage remains true: An ounce of prevention and all that.