Keri Herlong, CPCU, CIC, CRM, CISR, ACSR, AIM, CIIP, CLP, DAE
Do you feel like a fainting goat trying to understand what people mean by “1099 employee”?
Relax! This blog was written to keep you from keeling over when trying to determine what this means to policyholders versus what it means to your commercial lines underwriter.
1099 is not the magical way to make insurance premiums go down.
There is no legal definition for a 1099 employee because it’s not a real thing. However, I’ll continue to use the term here because it’s the terminology that policyholders use.
When comparing 1099 employees versus subcontractors, keep these things in mind:
1099 = individual
Subcontractor = business
These are general terms, and there will be exceptions, but if you start with this being square one, this will help with the rest of the explanation.
Now, take a step back from the number 1099 as it applies to insurance. 1099 and W-2 relate to taxes. Underwriters don’t need to know the tax situation between the policyholder and the people who carry out the policyholder’s work.
What underwriters really want to know is what exposures the policyholder has for which the insurance company should be collecting premium.
In order to do this, underwriters need to think like the insured employer. An employer may use the term 1099 employee because he considers a worker to be his employee, even though he doesn’t withhold any taxes for that person for the IRS.
Unfortunately, some policyholders may equate taxes with insurance. They may think that since they are avoiding dealing with taxes because they report amounts paid to people who work for them on a 1099 instead of a W-2, they are also avoiding having to disclose that exposure to their insurance agent (and ultimately, underwriter), but that is 100% false. Policyholders may also think that by changing a direct employee to a 1099 employee, they are making a business decision to transfer their – the employer’s – liability to the worker. No! An employer is still liable for work done under their direction, and the work comp laws in their state may still apply to their 1099 employee, regardless of who collects and pays employment and income taxes!
We must educate the policyholder to understand that taxes and insurance, while they may be objectionable, are mutually exclusive business expenses.
Taxes ≠ Insurance
In conjunction with that, we want to be sure the policyholder understands the effect that his/her working relationships have on GL and WC insurance premium. Because we don’t want any surprises at audit.
Let’s start thinking about what exposures drive potential for claims!
When a policyholder hires an individual – a direct employee – and withholds taxes via a W-2, do they expect that employee to have their own GL and WC insurance? No. The same should be considered true in general for a worker who is paid by the employer but receives a 1099 instead of a W-2. Or when payment is made by cash under the table with NO reporting at all, for that matter. The default assumption for an underwriter is that 1099 workers are uninsured.
Let’s consider exposure. The exposure of the individuals doing work on a jobsite is going to drive premium and potential for claims. The more individuals doing work for an employer, the higher the potential for claims, regardless of their tax status.
Because underwriters and policyholders (and sometimes agents) don’t speak the same language, to avoid pain for everyone, non-employee labor should be disclosed during the new business quoting process.
The most important question is: does the non-employee worker have their own GL or WC coverage?
We can ask the policyholder to break out their amounts paid as follows:
- Payroll for employees who receive a W-2
- Amount paid to individuals who do not receive a W-2 (i.e., 1099 employees)
- Amount paid to individuals as casual labor – for example, picking up a day worker at a home improvement store whom they just pay cash, but don’t issue any kind of tax form
- Amount paid to individuals or businesses with whom the policyholder has a written subcontract agreement
Properly identifying the individuals who could give rise to a claim is essential to determine acceptability of the risk.
Generally, the ideal relationship is with a direct employee.
Next is a subcontractor with a contract in place and adequate risk transfer.
Least ideal is a 1099 employee outside of a contract and with no other insurance.
The next area for clarification is with General Liability classification.
1099 workers who have their own insurance and a contract with adequate risk transfer should be classified as subcontractors using the appropriate 915XX sub class for the nature of work done.
Why do we classify them as subcontractors instead of in the governing class related to their type of work?
Because they have their own insurance. If a claim occurs and is brought to our policyholder, the primary coverage should come from the sub’s insurance.
Why do we have to add subcontractors to the coverage at all, if they have their own insurance?
Because our world is imperfect, and the sub’s coverage can lapse, or an AI could not be the right one, or any number of other issues or legal loopholes that would then revert back to the policyholder’s GL to pay. The rate for insured subs is significantly reduced from the rate for a typical GL class because these types of issues are rare.
1099 workers without insurance are classified in the governing class code for the nature of work done.
They should not be classified using the subcontractor class code because the uninsured 1099 worker has the same exposure as a direct employee, so they must be rated using the governing class for the type of work.
Here are a few scenarios using Pat, an employer, and Sam, the worker.
When Pat (the employer) hires Sam as a direct employee and Sam receives a W-2, Sam’s payroll is clearly what is used for the GL rating basis. This is the most ideal situation! The relationship is clear that the employee works under the direction and authority of the employer. Therefore, whatever they do in the course and scope of doing their work that could lead to a claim has been accounted for in the collection of premium.
Let’s consider that Sam is a 1099 uninsured worker. Pat hires Sam to come onto a jobsite and carry out a task. As a 1099 worker, Pat doesn’t ask if Sam has insurance. They don’t have a contract. Pat assumes that because he pays Sam by 1099, and Sam must pay his own payroll taxes, then Sam “probably” has his own GL and WC insurance, as well. If Sam causes damage or injury to a third party, who receives that claim?
Let’s say Sam, the uninsured 1099 worker, leaves a can of paint on a stairwell in an apartment building where he is working. A tenant comes along, trips over the paint can and falls down the stairs, breaking an arm. Although in serious pain, the claimant turns around and points at Sam, the 1099 uninsured worker and says, “This is your fault! You are going to pay!” Sam, the 1099 uninsured worker says, “No way, man! I work for Pat! You need to talk to him.” Pat is the employer who hired Sam (and probably called him a 1099 “employee”), so yes, Pat is liable for the tenant’s injury that Sam caused by leaving the paint can on the stairs.
Even if there wasn’t a claim, when this policy is audited, the auditor will ask questions about all amounts paid out to people who work for the policyholder – and this uninsured worker’s pay will be picked up at audit.
If Sam injures himself while working on Pat’s jobsite, and Sam doesn’t have health insurance, where is Sam going to look to cover his medical expenses and ongoing income while he can’t work? That’s right: Pat. In the absence of a contract (and Sam’s own insurance), most state laws say that Sam is entitled to work comp benefits from Pat.
Let’s switch gears to the subcontractor situation.
Sam operates his own business as a sole proprietor painting contractor. He is Sam Spade DBA Spade Painting. Pat found Sam’s business listing on Craigslist. Pat has done his due diligence to confirm that Sam is properly licensed, and has Sam sign a contract for an apartment repainting job. The contract states the terms of the job, including how much Sam will be paid, and that Sam is required to carry GL coverage with limits at least equal to Pat’s, name Pat as Additional Insured, and provide Pat with Waiver of Subrogation. The contract also states Pat is required to carry work comp. Sam signs the contract and gets to work.
Exposure? This is clearly a subcontractor and would be rated using the subcontractor class.
Claims? If the above-described GL claim occurs, Sam’s policy responds. If Pat is brought into it as well, the contract reverts back to Sam’s because of the AI requirement (in a perfect world).
The work comp can be a bit grey. As a sole proprietor, most states will say that Sam does not have to carry work comp. If Sam himself is injured, he could certainly make a claim under Pat’s work comp, but because of the written contract that says that Sam is responsible to carry work comp, it is probably up to each state whether or not Sam can collect on Pat’s work comp.
Audit? As long as GL and WC certificates are provided, Sam’s exposure will be excluded at audit. No cert – Sam’s exposure is included at audit, and everyone is sad and angry.
Digging deeper
Another question you may want to ask when the policyholder doesn’t understand:
Is there any type of contract in place?
If no, then there is nothing in writing that can be pointed to in a court of law that shows that our policyholder’s intent was that the 1099 worker would be responsible for any damage or injury they cause.
Understanding the difference between an employee, 1099 employee, and subcontractor can be a challenging topic for all of us in the insurance industry, so it is important that we can explain it to our policyholders.
A final summary:
The primary question is does the person doing the work have insurance?
No insurance, no contract: include in the governing class like you would a direct employee.
Has their own insurance, has a contract: include in the subcontractor class.
Keri Herlong is a Commercial Underwriting Consultant for Acuity. She has been a member of IAIP and the Las Vegas Insurance Professionals since 2011. Since joining the association, she has served at the local level as Secretary, President-Elect, and President. Keri has earned several awards from IAIP, including International Risk Manager of the Year 2021 and International Confidence While Communicating Speak-Off Winner 2020. She also chairs or serves on numerous committees within LVIP and IAIP at local, regional, and international levels. Keri earned an AS in Psychology (Summa Cum Laude) from California Coast University. In 2021, she published her first book, Hindsight 2020, under the pen name Jessie Jericho.