In this section of "Rise of the Machines: Avoiding the Legal Pitfalls of App Development" Roger Royse, founder of the Royse Law Firm, discusses:
1. Misclassification: Independent Contractor vs. Employee
2. Managing Risk: What Are the Direct & Indirect Costs
3. Strategies for Avoiding Misclassification
4. Reporting
Corporate Sustainability Due Diligence Directive (CSDDD or the EU Supply Chai...
Tax Issues in App Development
1. ericanbar.org | www.abacle.org
Tax Issues in App Development
Rise of the Machines: Avoiding the Legal Pitfalls of App Development
Thursday, September 26, 2019 | 2:00 P.M. - 3:30 P.M. Eastern
Sponsored by: ABACLE
Presented by: Roger Royse
2. ericanbar.org | www.abacle.org
Roger Royse
• Roger Royse is the founder of the Royse
Law Firm. He is a frequent speaker and
active in several leadership roles in the
American Bar Association.
• He serves as Chair of the Tax Practice
Management Committee for the Tax Law
Section, as well as Vice Chair for the
Tax Section’s Tax Policy and
Simplification Committee.
• He is also a member of the Executive
Committee Taxation Section of the
California Lawyers Association.
• Roger wrote “Dead On Arrival,” a
practical guide for entrepreneurs and new
lawyers to avoid the legal mistakes that
can kill otherwise successful startups.
• Roger regularly advises domestic and
international startup and emerging growth
companies on formation, financing, and
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Outline
1. Misclassification: Independent
Contractor vs. Employee
2. Managing Risk: What Are the Direct &
Indirect Costs
3. Strategies for Avoiding
Misclassification
4. Reporting
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The Story of Homejoy
• Used an algorithm to connect
homeowners with contract-for-hire
cleaners and to schedule visits
• Raised $40 million in venture
funding
• Treated its cleaners as independent
contractors, and not employees
• CEO said the “deciding factor” in
failure to raise money and failure
was worker classification lawsuits
(Recode July 17, 2015)
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Employment Status: The Law
• The presumption is that the worker
is an Employee (Cal. Lab. Code
§3357)
• Different agencies/jurisdictions
have different tests
• IRS
• DOL/FLSA
• CA Common Law and EDD
• Statutory Employees
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Employment Status: The Law
• IRS: The Control Test
• Behavioral Control
• Financial Control
• Type of Relationship
• DOL/FLSA: Economic Realities Test/Silk Factors
• Focus is on the degree of control the Company has over the
worker performing the service. The key inquiry is the right
to control not whether the Company actually exercises the
control.
• In July 2015, DOL issued administrative guidance and
explained that the test focuses on whether the worker is
economically dependent on the hiring entity or is in
business for herself/himself.
• CA Common Law/EDD: S. G. Borello & Sons, Inc. v Dept. of
Industrial Relations (1989) 48 Cal.3d 341
• This is a multi-factored test with the most significant
factor considered is whether the principal has control or
the right to control the worker as to the work done and the
manner and means in which it is performed.
• Statutory Employees
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Dynamex Decision
• Dynamex Operations West, Inc. v.
Superior Court of Los Angeles adopts
a three-factor ABC test, which
presumes a worker is an employee
unless all of the following tests
are satisfied
• Worker is free from control and
direction of hiring authority
• Worker performs work outside the
usual course of the hiring
entity’s business, AND
• Worker is engaged in an
independently established trade,
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Dynamex and Tax?
• Decision applies “for purposes of
California wage orders” (emphasis in
original), not for tax
classifications
• Worker may be classified differently
for different purposes
• Will the EDD use Dynamex and become
more aggressive?
• EDD has not stated that it will
apply Dynamex
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AB-5
• California Assembly Bill 5 would
codify Dynamex in the Labor Code and
the Unemployment Insurance Code “For
purposes of the provisions of this
code and the Unemployment Insurance
Code, and for the wage orders of the
Industrial Welfare Commission…”
• Numerous carve-outs proposed
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AB-5
• Uber, Lyft and DoorDash threatened
to spend $90 million on a 2020
ballot measure unless the
Legislature passes a new bill
allowing them to avoid classifying
drivers as employees
• California Labor Federation,
representing 1,200 unions with 2.1
million members, vowed to defeat the
effort (LA Times August 30, 2019)
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Direct Costs of
Misclassification Finding
• Unpaid back federal, state and local income tax
withholdings
• Unpaid back Social Security and Medicare contributions
• Unpaid federal and state unemployment insurance taxes
• Unpaid workers’ compensation premiums
• Unpaid back overtime compensation and/or minimum wages
• Overtime and Minimum Wage Penalties
• Unpaid work-related expenses
• Unpaid sick and vacation pay
• Waiting Time Penalties (Cal. Lab. Code §203)
• Cal. Lab. Code §226.3 (Failure to Provide Accurate Wage
Statements)
• $250 per employee per violation in an initial citation; $1,000 per
employee for each subsequent violation
• SB 459 (Cal. Lab. Code §226.8 & §2753)
• Willful misclassification – Penalties range from $5,000 - $15,000 PER
violation. If an entity is in engaged in a “pattern or practice” of
misclassification fines increase to $10,000 - $25,000 per violation
• Joint and Several Liability with Employer for knowingly advising
misclassification (exception for practicing attorneys and persons
advising his/her employer)
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Direct Costs of
Misclassification Finding
• Attorney Fee Shifting Statutes
• Minimum Wage/Overtime (Cal. Lab. Code §1194)
• Nonpayment of Wages/Benefits (Cal. Lab. Code §218.5)
• Enforcement of Public Interest (Cal. Civ. Proc. Code §1021.5)
• Cal. FEHA Fees (Cal. Gov’t. Code §12965(b)
• Criminal Penalties
• Failure to procure workers’ compensation insurance (Cal. Lab. Code
§3700.5)
• Knowingly and Intentionally Violating Cal. Lab. Code §226 (Failure
to provide wage statements)
• Potential Insurance Premium Fraud
• Intentionally underreporting payroll or misclassifying workers
to avoid workers’ compensation premiums
• Example:
• T.B. Concrete – charged with 15 felony counts of submitting
false payroll reports and misclassifying employees to avoid
payroll taxes and workers’ compensation expenses. State claimed
that 111 (85% of the Company’s payroll) were underreported.
• Stop Orders and Penalty Assessments under Cal. Lab. Code
§3710.1
• PAGA Claims
• Allows plaintiffs’ attorneys to bring suit on behalf of individuals
as a stand-in for the attorney general in order to seek any civil
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Indirect Costs of
Misclassification Finding
Short-Term Costs & Benefits
• Employers save around 30% on payroll and related
taxes by utilizing Independent Contractors
• Do not need to provide:
• Health Benefits
• Retirement Benefits
• Paid Time Off
• Employees have:
• Flexible Work Schedules
• Supplemental Income
• No Benefits
• PTO, Health or Retirement
• No Legal Protection
• No workers’ compensation or wage and hour law
protection
• No Job Security
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Indirect Costs of
Misclassification Finding
Long-Term Costs & Benefits
• How is this new labor market impacting Company
culture?
• Potential Impact on Hiring – Who will join your
Company?
• Limited to No Training of Workers Classified as
Independent Contractors
• Affects Quality Control
• Employee Loyalty
• Independent Contractors will work for competitors
• Risk of Trade Secret Theft
• Impact on Investor Funding
• Red flag in due diligence, concern with litigation
risk
Vs.
• Focused on financial benefits; want startups to keep
costs low
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Indirect Costs of
Misclassification Finding
Litigation Costs
• Statute of Limitations
• Varies upon jurisdiction, generally 2-3 years
• No Waiver of Wage and Hour Law Claims in a
Release
• Many Releases include language directly asserting
that wage and hour law claims are not waived
• Can include language preventing collection of
monetary relief from wage and hour claims
• Attorney’s Fees
• Fee Shifting Statutes make litigating potentially
extremely expensive
• Liquidated Damages
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Strategies for Avoiding
Misclassification
If the Company desires to utilize independent
contractors:
• Re-evaluate current independent contractors to ensure
status is still applicable.
• Remember status can change over time
• Draft an independent contractor agreement that
establishes real independence
• Structure the day-to-day work relationships to follow
the independent contractor agreement and be sure that
the daily activities reflect actual independence
• If status of a worker or group of workers looks like
a “close call” or falls into the “legal grey area,”
consider classifying as an employee (part-time,
temporary, etc.)
• Consider using a Staffing Agency or Workforce
management firm
• CAUTION – recent case law has held joint and
several liability for Company with staffing
agency/workforce management firm for indirect
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Hybrid Worker Classification
“Dependent Contractor”
• Receives some but not all employee protections
• Canada
• Employers are required to provide the worker with
reasonable notice upon termination - Keenan
(c.o.b. Keenan Cabinetry) v. Canac Kitchens, a
Division of Kohler Ltd (“Canac”)
• Ultimate factors are: exclusivity and economic
dependence
• 80% or more of income from a single source
• Germany
• Worker that is economically dependent on his or
her job and has been working with one entity for
several years
• 50% of income from a single source
• “Minijobs” are permitted for part-time workers
where the worker earns no more than €450 per month
and the income is tax-free
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Reporting
• IRC 6041A(a): 1099-Misc reporting of
payments of $600 or more in a trade or
business
• 6050W: 1099-K for payment settlement
agencies
• Applies if a Payment Settlement Agency
(PSE) makes a payment in settlement of a
reportable payment transaction
• PSE includes a third party settlement
organization (TPSO)
• A TPSO is a PSE in the case of a
third party network
• A TPSO is the central organization
that has the obligation to pay
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1099-K Reporting
• in settlement of third-party payment
network transactions above the
minimum reporting thresholds of
• gross payments that exceed $20,000
AND
• more than 200 such transactions
• Caution:
• The IRS has issued several private
letter rulings stating that online
platforms and marketplaces have a
reporting requirement under 6050W.
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1099-K Examples
• Service-recipient A, in the course of business,
pays $600 of fixed or determinable income to B, a
repairman, through a third party payment network.
B is one of a substantial number of persons who
have established accounts with Y, a third party
settlement organization that provides standards
and mechanisms for settling the transactions and
guarantees payments to those persons for goods or
services purchased through the network. Y is
responsible for making the payment to B. Under
paragraph (d)(4)(i) of this section, A is not
required to file an information return under
section 6041A(a) with respect to the transaction
because the transaction is a third party network
transaction that is subject to reporting under
section 6050W.
• 1.6041A-1(d)(4)(ii), Ex. 2.
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1099-K Examples
• Restaurant owner A, in the course of business,
pays $600 of fixed or determinable income to B, a
repairman, through a third party payment network.
B is one of a substantial number of persons who
have established accounts with Y, a third party
settlement organization that provides standards
and mechanisms for settling the transactions and
guarantees payments to those persons for goods or
services purchased through the network. Y is
responsible for making the payment to B. Under
paragraph (a)(1)(iv) of this section, A, as payor,
is not required to file an information return
under section 6041 with respect to the transaction
because the transaction is a third party network
transaction that is subject to reporting under
section 6050W.
• 1.6041-1(a)(1)(v), Ex. 2.
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Sales Tax Nexus
• South Dakota v. Wayfair, Inc. allows
states to tax remote sales
• Under prior law states could only
tax sales by businesses with a
physical presence in the state
• Under Wayfair economic activity in a
state — economic nexus — can trigger
a sales tax collection obligation,
including sales revenue, transaction
volume or both
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Economic Nexus
• Most states now have an economic
nexus law or rule on the books
• States also tax remote sales based
on affiliate nexus and click-through
nexus
• Affiliate nexus is based on
certain relationships between the
remote seller and affiliated
entities such as parent-subsidiary
• Click through nexus is based on an
in-state person referring sales to
the out-of-state seller
usually through a website link
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Marketplace Facilitators
• Some states require marketplace
facilitators to collect and remit
tax on behalf of third-party sellers
• Marketplace that contracts with
third party sellers to promote their
sale of goods and services through
the marketplace. Amazon is a
marketplace facilitator.
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California
• An out-of-state retailer must register and
collect and remit California sales and use
tax if, in the preceding or current
calendar year, the retailer “and all
persons related to the retailer” have more
than $500,000 in total combined sales of
tangible personal property for delivery in
California.
• As of October 1, 2019, in-state
marketplace facilitators and out-of-state
facilitators that meet the $500,000
threshold must collect the tax due on all
sales made in the state through the
marketplace ( and not the marketplace
sellers)
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For more information, contact
us.
Royse Law Firm, PC
www.rroyselaw.com
Silicon Valley
149 Commonwealth Drive
Suite 1001
Menlo Park, CA 94025
P: 650-813-9700
San Francisco
135 Main Street
12th Floor
San Francisco, CA 94105
P: 415-421-9700
Santa Monica
520 Broadway
Suite 200
Santa Monica, CA 90401
P: 424-238-3335
Orange County
135 S. State College Boulevard
Suite 200
Brea, CA 92821
P: 310-481-0125