Written by James R. Forrest and Megan R. Demeny from Michael Best & Friedrich LLP on March 20, 2026
Most business owners don’t realize this until it’s too late: your contractors (1099s) might actually be your biggest hidden liability – if they should instead be classified as W-2 employees.
Over the last 6 months, I’ve seen:
- High-growth companies blindsided by misclassification claims
- Deals slowed (or repriced) during due diligence
- Owners shocked by retroactive wage + tax exposure
- Execs surprised that EPLI didn’t cover classification claims
- Employers handcuffed by the rapidly shifting employee/independent contractor analysis framework
- Progress stalled due to misclassification claims and litigation
Here’s the hard truth:
“They signed an independent contractor agreement” is no longer a valid defense; rather, it can be a company’s costliest mistake. In 2025 alone, the United States Department of Labor recovered over $259 million in unpaid back wages largely attributable to misclassification – the most substantial annual recovery by the Department since 2019.[1]
Now more than ever before, regulators and courts are questioning employers’ classification of workers as independent contractors – challenging the validity of independent contractor and consultant agreements by scrutinizing the nature and degree of the employer’s control over the worker’s work, the worker’s opportunity for profit and loss based on the worker’s own investment or initiative, and the worker’s freedom to take on other work. This analysis is made even more challenging for employers as the Department of Labor alters its classification guidance from administration to administration, creating a moving target for employers seeking to ensure compliance.[2] Adding yet another layer of complexity to the analysis, companies in highly regulated states may face classification challenges that result from additional, and often more stringent, state-level classification rules.[3]
Misclassification can result in IRS penalties, back wages, unpaid overtime, unpaid benefits, fines, and, in the event of willful misclassification, criminal charges; however, early identification of potential classification problems and voluntary efforts to comply with the Fair Labor Standards Act, tax law, and state classification laws can be a substantial factor in limiting an employer’s liability.
Smart owners are auditing before someone else does it for them. If a regulator reviewed your workforce tomorrow…would you be confident?
