When Congress passed its sweeping tax overhaul last December, US businesses celebrated the reduction of the corporate tax rate to 21%. In addition to the corporate tax break, pass-through entities — which include sole proprietorships, LLCs, partnerships and S-corps — also got a concession through a hotly debated arrangement.
This “pass-through provision” allows these entities — which comprise the vast majority of American enterprises — to deduct 20% of revenue from their taxable income upfront (with some qualifications).
So, what does that mean for companies that engage with independent professionals? At this point, uncertainty reigns. In our recent pulse survey of HR professionals, 81% weren’t sure how the tax plan would affect their contingent workforce strategies. It’s safe to say the same is probably true for staffing firms.
Whatever the end result, if you’re a talent solutions provider who subcontracts to — or competes with — independent contractors, the implications of this change shouldn’t be overlooked or underestimated. In addition to impacting your own relationship with independents, this provision will change the way your end clients engage with and treat contingent labor.
Predicting the Future
So, what can staffing firms expect to see? As the bottom line, companies and firms should expect the tax plan to accelerate the already-burgeoning gig economy trend. The attractiveness of the tax break provides a powerful incentive for workers flirting with independence to jump right in.
One change you may see relates to engagement and payment. For instance, while your company may have been paying an individual for services, now you may see a trend where your company is paying that individual’s LLC instead. This will likely be the case even though sole proprietorships also can claim the tax break. Corporate forms, such as LLCs and S-corps, generally shield their incorporators from personal liability in the case of a lawsuit.
This increase in freelancers comes at a good time. As has been well documented, more and more workers are seeking alternatives to traditional full-time employment, while at the same time, more and more employers are seeking alternatives to keeping traditional full-time employees on their books. There could, as a result, be downhill pressure on staffing firms that have heretofore only sourced and recruited those willing to work as temporary employees to provide services to their clients, to expand the field and include independent workers at more competitive prices. This could come about through employee talent shortages at the contingent level, as many of these workers choose to incorporate and benefit from the tax deduction. It could also lead the same talent to look to engage outside of traditional staffing firms, and go direct with clients. So, staffing firms may need to rethink their independent worker engagement model to remain competitive.
Buying Patterns Will Change
Furthermore, as more individual workers incorporate, the share of independent professionals engaged on statement-of-work (SOW) contracts may increase. This could result in companies facing challenges with a “one-size-fits-all” independent worker policy, for requirements such as insurance. For example, while it makes sense to have large vendors procure a high amount of, say cybercrime insurance, the independent vendor who has only a few employees likely will not be able to or willing to procure that coverage amount. So, large enterprises that have typically turned to staffing and MSP providers and/or the big consulting firms for talent may witness the rise of an “in-between” labor pool — small vendors that nonetheless have sought-after talent and fall into a corp-to-corp bucket, but who need to be handled differently.
This “in-between” pool will likely require many firms to maneuver in ways they haven’t had to before, or risk losing out on professionals who have genuine skills but aren’t readily “procurable” under their current onboarding and compliance programs.
Upward pressure on staffing firms
As with direct clients, staffing firms will also have to rethink their relationships with independent contractors. They too must find a way to compliantly engage that talent, and they’ll likely feel pressure from both sides (client and contractor) for an economically different model.
As staffing firms learn how to compliantly engage these workers, the absence of associated statutory costs makes double-digit markups less justifiable. Further, as earlier noted, it might simply be harder for staffing firms to engage independent contractors as more lucrative (to the independents) models emerge and are adopted.
Another potential consequence for staffing firms: independent contract workers who’ve traditionally relied on staffing firms to identify suitable assignments may be tempted to shift their attention (and revenue-generating potential) to third-party aggregators. Those platform providers could pick off top talent from staffing firms by:
- consolidating compliance requirements
- providing more economic stability; and
- otherwise reducing the burdens related to incorporation.
Worker Misclassification Tests Remain Unchanged
All users of independent workers need to keep in mind that while the new tax law enacts sweeping reform, it does not change any of the tests or enforcement tactics regarding worker misclassification. Therefore, as long as there’s misclassification enforcement and economic pressure is pushing people to hang up their shingle, firms need to remain in compliance to avoid any audits or lawsuits.
Additionally, with many former employees entering the independent model, firms will see a more naïve contingent workforce, i.e., legally-formed independents that nonetheless retain the employee mindset. Companies and firms will want to be wary of over advising these workers, or exerting too much direction or control over them.
While many new changes may come about as a result of the tax reform, and much remains at a point of speculation, staffing firms should review their policies and practices to be sure they are prepared for potential changes to come.
At the very least, one thing is certain: these changes should make for a lucrative few years ahead for the lawyers.