Paul L. Caron

Monday, October 19, 2020

Wilking Presents Employees v. Independent Contractors: Evidence From U.S. Tax Returns Virtually At Michigan

Eleanor Wilking (Cornell) presented Independent Contractors in Law and in Fact: Evidence from U.S. Tax Returns virtually at Michigan yesterday as part of its Law and Economics Workshop Series hosted by J.J. Prescott & Veronica Santarosa:

WilkingFederal tax law divides workers into two categories depending on the degree of control exercised over them by the service purchaser (i.e. the firm): employees, who are subject to direct supervision; and independent contractors, who operate autonomously. Worker classification is consequential, determining how the income tax is administered and what it subsidizes, as well as which non-tax regulations pertain, such as workplace safety and anti-discrimination protections. The Internal Revenue Service and other federal agencies have codified common law agency doctrine into multi-factor balancing tests that are challenging to apply and costly to enforce. Yet almost nothing is known about how firms actually classify workers, and how such classification relates to the control they exercise. To bridge this gap between legal principles and legal practice, this Article introduces a novel empirical analysis using a comprehensive data source—all digitized U.S. income tax filings. This analysis establishes several new empirical facts.

First, using six measures informative of firms’ control over workers, I show that employees and contractors have grown more similar over the last two decades. Second, I show that a firm is more likely to reclassify an employee as a contractor in response to changes in financial incentives created by policy. These results suggest a growing misalignment between how workers are classified and the economic substance of firm-worker relationships, a trend that is more pronounced for lower-earning workers. Put another way, two otherwise identical workers, with relationships that feature a similar degree of control, may end up being classified differently due to, among other factors, their firms’ financial incentives. After providing a framework for interpreting my findings, I discuss the key normative questions raised by the apparent erosion of the legal boundary delimiting contractors and employees.

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