A guide to managing contingent workforce risk

Over the last two decades, large organizations have begun to realize the benefits of leveraging a well-managed, extended, contingent workforce. These benefits include accessing strategic skills only when needed, capacity management, cost-effectiveness, and—in theory at least—reduced employment risk.

However, governments and their tax authorities perceive that many models of self-employment and contingent workforce management generate lower tax revenues because they pay less direct tax than the employed. In fact, some, including the UK’s HMRC, Australia’s ATO, the IRS in the United States, and European tax agencies such as the Dutch Belastingdienst, take a more critical viewpoint.

As a result, worker misclassification legislation has been introduced in many jurisdictions to counter ‘false self-employment.’ If the worker was working directly for their end client and not via an intermediary, such as an employment business, umbrella company, or their own one-person service company, they would be employed and would, therefore, pay the same tax rates as any other employee.

Tax is only one area that can differentiate the permanently employed workforce from the extended workforce. Regulated occupations like professional services, trades, teaching, healthcare, and transport have rules and requirements. If your organization hires drivers, who are responsible for ensuring they hold the correct licenses, and who pays the fine for breaches when they don’t?

The resulting financial sanctions applied to the end-client organization hiring a misclassified or unqualified worker can be high. Back taxes, penalties, and fines for regulatory and license breaches are only the financial penalties you face. Reputational damage – think of Uber, Hermes, and other well-known gig economy hirers – can significantly impact other aspects, such as shareholder value.

And organizations that misapply the legislation and therefore cause financial damage to the highly skilled knowledge workers they need as part of their total talent strategy will lose that competition for talent and become uncompetitive.

What are the risks?

Organizations often choose to utilize an extended workforce to avoid employment risk. When assessed objectively, employees on permanent contracts attract many risks. They have to be searched for, selected, recruited, and onboarded. Employees want benefits, they get sick (and get paid for it), they want to go on holiday (and get paid for it), they need training, they can be expensive to let go when no longer needed, and they can have a great many expensive-to-implement employment rights, depending on their location.

In contrast, contingent workers turn up, do the job, and go, particularly highly skilled knowledge workers in sectors such as IT, finance, HR, and engineering, but also in any skilled and semi-skilled occupations. They don’t receive sick and holiday pay, pensions or benefits, or training and leave when the contract ends.

This flexibility means the extended workforce of contractors, interims, consultants, freelancers, and temps enables organizations and national economies to be highly competitive. If you have a surge in deliveries, you hire temporary drivers. Running an immunization program? Hire temporary nurses and locum doctors. But in the real world, it is not that simple.

Take worker misclassification. In the IT space, for example, a financial IT contractor expert in testing, earning £1000 per day on a series of short contracts, completing specific projects, may be very different from a first-line IT support desk operative earning £125 per day.

The contract IT helpdesk worker may work with a permanent employee, and they may be doing the same job. However, the contractor is paying less income and social security taxes. This could be disguised as self-employment, which is why many governments and their tax-collecting agencies have introduced worker misclassification legislation.

Worker misclassification

Most knowledge economies have introduced worker misclassification legislation to reclaim unpaid payroll taxes and social security contributions. The legislation is often, although not always, designed to extract that unpaid tax from the organization in the supply chain with the deepest pockets. This is usually the end-user client or the employment business supplying the worker.

This unpaid tax and social security, alongside the huge penalties, fines, and interest that also form part of the legislation, represents a significant risk to extended workforce users. There is also a secondary risk in some jurisdictions.

If the misclassification legislation shows a worker or group of workers as being employed, then these workers take legal action to claim all the employment benefits they should have received, such as sick pay, holiday pay, and so on.

Examples of worker misclassification legislation 

• In the UK, enforced by HMRC, Off-payroll working, IR35, or the intermediaries legislation introduced in 2000 and updated in 2016 and 2021, uses ambiguous tests of employment that consider whether the worker is controlled, can send a substitute, and is obliged to work if their client provides it. The focus is on the relationship between worker and client, not the written contract. The 2021 changes mean end-user clients now pay unpaid tax.
• The Dutch Deregulering Beoordeling Arbeidsrelatie (DBA) was introduced in 2016 and modeled on the UK’s IR35. There is an online tool to help companies hire self-employed workers, plus the legislation is being updated as it is complex and ambiguous. Contractors, called ZZP’ers, have separate tax rules if they qualify.
• The United States US-1099’S/IC rules, enforced by the IRS, are one of the more straightforward examples of worker classification. They focus on control and the real nature of the relationship between worker and hirer.
• In each of these examples, the employer/end-user hirer is responsible for paying unpaid taxes and social security contributions if the worker is misclassified as self-employed and is really an employee.

How to prevent worker misclassification

Visibility is essential, as is local knowledge. In organizations with hundreds of thousands of workers globally, it is difficult to understand local employment and tax legislation and effectively monitor employment status. An essential step towards evaluating contingent workforce risk is to know your workforce:

• Who they are
• Where they are
• What they are doing
• Whether they have the correct qualifications/certifications
• Employment status

This visibility includes ensuring all workers are accurately categorized based on their engagement in reality – which can be a significant exercise. This is also true of qualifications and certifications.

Vendor management systems (VMS) help de-risk your extended workforce

A vendor management system (VMS) makes tracking and managing the entire lifecycle of any individual worker providing contingent work easy. You can capture granular details about the nature of their assignment and easily recall the data if required by a tax authority. Workers’ qualifications, licenses, and certifications can be stored and individually assessed to ensure compliance. Even onboarding, site access, and offboarding of workers who require access to facilities or networks can be tracked and managed.

To learn more about what a VMS is, what its key features are, and the benefits it can bring to your organization, download our free guide. This will guide you in how a VMS can aid contingent workforce planning, forecasting, management, and procurement.