While employment law in the United States is much-less regulated than most of our international counterparts, international companies can run afoul of U.S. labour and tax laws when paying service providers in the U.S. This article describes some common missteps, as well as compliance tips with respect to U.S. labour and tax laws. Amy Beckstead, a United States attorney licensed to practice in the states of Texas and California, at DLA Piper.
On the tax side, having employees continue to work for a foreign-based company (and not a separate American subsidiary) could create a taxable permanent establishment for the international company in the United States. What does this mean? Not only is the international company responsible for payment of U.S. employment taxes (Medicare, FICA, federal withholdings), but the U.S. Department of Internal Revenue (the “IRS”) could determine that the company is generating profits in the U.S. and require the international entity to hand over its financials and impose U.S. corporate taxes. A better approach is to set up a U.S. subsidiary corporation. The American corporation, of course, would be subject to corporate taxes — but the taxes would only be to the American corporation's profits, not its parent company.
In some countries, companies can also easily contract with temporary or non-permanent service providers, treating them as “contractors” and not “employees” and having the contractors assume all responsibility regarding payment of taxes and compliance with labour laws. This does not work in the United States. An individual that is otherwise performing services that the IRS and other government authorities deem are “employment” services cannot voluntarily agree to be classified as a contractor. So how can a company determine if an individual is a contractor versus an employee? The IRS has an 11-factor test that focuses on the level of direction and control the company exerts over the worker. Other agencies have adopted variants to the IRS test. Ultimately, the key is ensuring that workers are appropriately classified under the applicable state and federal laws and paying the appropriate employment taxes on these individuals. If a company fails to do so, it faces back-tax liability, penalties, as well as potential back-wage liability with respect to the incorrect classification.
In some countries, employees can agree to forego their rights to receive overtime pay. Not so in the U.S. Here, employers must pay overtime for time worked over 40 hours, unless the employee is exempt from overtime laws. Some U.S. states have even more stringent overtime regulations and so state law where the worker is located must also be consulted. (California, for example, requires payment of overtime after 8 hours in a day.) Whether an individual is exempt from state and federal overtime laws depends on whether the individual can meet the salary and duties test to be an exempt employee under federal and, if applicable, state law. For example, most support personnel (such as secretaries or data entry workers) would not meet the “duties” test to be considered an exempt employee. Conversely, department managers, heads of departments, and skilled professionals (such as accountants and lawyers) often will meet the “duties” test and be classified as exempt, provided they are paid the required salary.
Employers that fail to classify employees correctly later expose themselves to liability for unpaid overtime. Under federal law, the statute of limitations for overtime claims is up to 3 years and employees can recover back-wages, liquidated damages in the amount of the back-wages, interest, and attorneys’ fees. Other states have longer statutes of limitations, as well as a variety of penalties and other damages that can attach to overtime claims. Wrongly misclassified employees can, thus, expose a company to significant liability, including class and collective actions.
Top tips
1: Set up a separate U.S. subsidiary and avoid the potential of exposing the international company to U.S. corporate taxation.
2: Make sure workers are appropriately classified as employees and independent contractors – don’t have as a “default” that workers will be treated as contractors.
3: Make sure if employees are classified as exempt from overtime laws, that the employees meet the applicable federal and state tests for the exemption.
For more information about the labor and employment considerations international employers should make when first setting up business in the United States, please contact Amy Beckstead, a United States attorney licensed to practice in the states of Texas and California, or Dean Fealk, a United States attorney licensed to practice in the state of California, both partners at the global law firm, DLA Piper LLP (US).
