Understanding worker classification laws

The number of independent contractors in the last several years has grown to nearly half the global workforce, hovering between 46-48% for the last five years. 

This means that employers seeking to add to their cross-border workforce are experiencing greater than ever pressure to adhere to US and international labor standards around proper employment classification. 

These laws vary significantly depending on where you are hiring, making a comprehensive guide difficult without exploring each country. With that in mind, the following sections provide a high-level understanding of worker classification laws, including how they have changed over time, a few intense international examples, and how companies can navigate them in the contemporary market.

The steps to understanding worker classification laws

Understanding worker classification laws can be confusing, so we’ve laid it out as neatly as possible. 

Where is the worker located? 

The location of the worker determines the parameters under which an employee vs contractor is defined. For US business owners, these terms are strictly defined via the classification tests mentioned in the section below, but international employers will also need to consider the employment classification system of the worker’s country.

For clarification, jurisdiction will almost always fall to the contractor’s country. For example:

Worker Nationality	Worker Location	Employer Location	Classification Law Used
US Citizen	US	US	US
US Citizen	US	Spain	US
US Citizen	Spain	US	Spain
US Citizen	Spain	Spain	Spain
Spanish Citizen	US	US	US
Spanish Citizen	US	Spain	US
Spanish Citizen	Spain	US	Spain
Spanish Citizen	Spain	Spain	Spain

A few examples where this is not the case include: 

• Instances where the contract stipulates the jurisdiction of the company. This CAN be ignored by local courts, however, if the minimum requirements for worker treatment are not being met for the contractor. 
• Travelling workers often involve working with several jurisdictions at the same time, ensuring that everyone’s standards are being met. 

The next step is determining what type of worker the individual classifies as. For that, employers will need to consult several tests.

What classification tests do I need to consider?

Companies considering a new worker must use the following tests in order to determine the classification status of their workers. There are three main tests.

Level	Test	Associated Gov. Agency
Federal	IRS 20-Point Checklist	Internal Revenue Service (IRS)
	Economic Reality Test	Dept. of Labor (DOL)
State	ABC Test	State Agencies
	State Hybrids	State Agencies

While the federal tests (e.g., 20-Point Checklist, Economic Reality Test) apply no matter where you are hiring in the US, state-level tests vary depending on the jurisdiction of the worker. In some cases (e.g., Oregon and Washington), you will need to do both, as demonstrated in the map below:

State classification tests in the United States

Once these tests are complete, companies hiring domestically can proceed straight to step 6. Companies hiring internationally, however, have a longer road ahead; they will need to consider these tests in tandem with any tests in the contractor’s country (typically via their department of labor/tax authority site), and then proceed to Step 3.

Finally, employers who remain uncertain can use Form SS-8 to request IRS guidance on worker classification.

What are the tax and social security rules? 

For companies hiring internationally, there are tax considerations that need to be factored in before the worker can be officially classified one way or the other. Examples include: 

• Official registration that might be required through the local government
• Certificates certifying that an individual’s proof of self-employment
• Requiring social security payments regardless of classification
• Countries requiring businesses to register with local authorities to pay taxes or social security

This means that employers will need to verify the worker’s taxpayer identification number (TIN), register with local authorities, and/or document earnings and certificates before hiring can begin. If you are not working with a global workforce management platform, you will need to hire a local expert to ensure full compliance with that country’s laws. 

What local compliance requirements do I need to keep in mind? 

Although most of the classification work has been completed by this stage, certain international situations may require additional actions on the part of the employer. Examples include: 

• Local ordinances mandating specific actions by employers (e.g., providing a written notice to workers about their status, posting local labor laws, maintaining records)
• Industry-specific regulations requiring additional compliance measures (e.g., healthcare, construction, government sector) to verify the qualifications of the candidate
• Additional paperwork for non-citizens (e.g., I-9) going beyond standard classification 

What are the consequences of misclassification?

The final step to understanding worker classification laws is just about making sure you know about and are prepared for the risks of misclassification. The reality is that, even with an experienced team, it’s still possible to treat an employee as a contractor or vice versa. If that happens, employers must be prepared to deal with the fines and other penalties associated with it. 

The countries in the table below have been selected specifically because they are among the countries with the most stringent classification laws, as well as having a significant percentage of their workforce that qualifies as independent contractors. It also includes an overall severity rating, which we apply subjectively on a scale of 1-10.

The most severe worker classification laws in the world

Country	# Classification Laws	~Amount owed per misclassified contractor	Additional Penalties	Are IP rights in jeopardy?	% of workforce	Overall Severity Rating (1-10)
US	10	$10,000-30,000	Back pay, taxes, fines	Contract-dependant	15%	7
Germany	10	≥€50,000	Retroactive social security	Yes	30%	10
			1% monthly late fees
			Possible criminal charges
France	9	€45,000	Retroactive taxes	Yes	32%	9
			Lost benefits
			Possible 10-year ban
UK	9	€10,000-€100,000	Back tax bills	Yes	25%	8
			High-profile fines

To provide a sense of context, the table below provides the same data for countries with some of the least stringent worker classification laws in the world:

The least severe worker classification laws in the world

Country	# Classification Laws	~Amount owed (per contractor)	Additional Penalties	Are IP rights in jeopardy?	% of workforc	Overall Severity Rating (1-10)
Netherlands	4	€2,000-€10,000	Occasional payroll back taxes	Rarely	15-17%	3
Ireland	4	€2,000-€10,000	Back taxes	Rarely	14-16%	3
			Limited fines
Czech Republic	3	€1,000-€5,000 (Typically capped)	Limited retroactivity	Rarely	12-14%	2
Hungary	3	€1,000-€8,000	Back payments	Rarely	12-13%	2
			Limited Fines

Wherever it is you are hiring, a critical aspect of international hiring is the presence of a local entity. Unless you plan on hiring through an employer of record (EOR) or an agent of record (AOR), this will need to be set up manually, which can take weeks or months, depending on the local laws of the country. Employers should take this timeframe into account when considering their international hiring process.

Worker classification laws over time

The number of worker classification laws in western countries has experienced steady YoY increases for the last decade as independent contracting work becomes more common: 

These numbers say nothing of the severity of the laws in question, but they do point to a general trend observed worldwide: employers are increasingly turning to independent contractors to fill the gaps in their workforce. 

Need help understanding worker classification laws? 

The reality is that navigating the myriad of worker classification laws is exceptionally difficult, especially when hiring internationally.

Beyond the tedious aspect of setting up a local entity, it is a time-consuming effort to keep up with the ever-evolving landscape of local and international labor laws, even for an experienced in-house team. 

That’s why many companies choose to outsource the work of understanding worker classification laws to a third party.

Whether you are hiring employees or independent contractors, Payoneer Workforce Management provides companies at every scale with the tools they need to ensure compliance and source the best talent for their company. Reach out at the link below to select your best option.

FAQs

1. How do you determine employee classification?

Employee classification is based on how much control you have over the worker, how they are paid, whether they receive benefits, and the nature of the work relationship. Key categories include W-2 employees, 1099 contractors, and whether employees are exempt or nonexempt under labor laws.

2. What is the worker classification under FLSA?

Under the Fair Labor Standards Act (FLSA), workers are classified as either exempt or nonexempt. This determines whether they are entitled to minimum wage and overtime pay protections.

3. What is the difference between FLSA exempt and nonexempt?

Exempt employees are not entitled to overtime pay and usually work in salaried executive, administrative, or professional roles. Nonexempt employees are eligible for overtime pay and are typically paid hourly. Classification depends on job duties, salary level, and how the employee is paid.