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Adding Talent to Your Startup – Common Pitfalls to Avoid

January 30, 2015

If you are a young startup, then you probably have more work than you do time to perform the work. That means you are probably starting to think about bringing in additional talent to help you. However, there are several things you should consider, prior to on-boarding your first worker, to ensure you protect the company and structure the relationship in a way that accurately reflects your intent.

Accordingly, below are a few key things to keep in mind.

New Employees
Regardless of whether you are about to hire your first employee or already have 20, you need to ensure you obtain proper documentation from your new hires. For example, all employers are required to complete a Form I-9. This form is used to verify the identity and employment authorization of individuals hired in the United States. Failing to obtain such forms could result in significant fines and penalties to the company and/or the owners.

Similarly, employers should obtain a Form W-4 from any new hire. This form will help you, as the employer, determine the correct federal income tax to withhold from your employee. Again, failure to withhold the proper amount of taxes from your employees could result in penalties to your company and an unexpected tax bill for your employees at the end of the year.  

Independent Contractors
Startups often want to avoid all the requirements that come with hiring and employing employees and instead opt for an independent contractor relationship. However, in practice, the company will often treat the contractor no differently than an employee. Employers must be mindful that treating a contractor like an employee could create an employer/employee relationship, regardless of the parties’ intentions.

A few things to keep in mind to maintain an independent contractor relationship:

  1. The company should not control, or have the right to control, what the worker does or how the worker performs his or her job;
  2. The company should not control the business aspects of the worker’s job (such as providing tools/supplies for performing the work, determining whether and what expenses are reimbursed, etc.);
  3. The parties should execute a written contract that expressly states the relationship is one of an independent contractor;
  4. The Company should not provide the same benefits (such as vacation, health insurance, etc.) to the contractor as it does to its employees;
  5. Typically an independent contractor is hired for a specific project, not a continuing relationship, and does not perform key aspects of the business.

Employee Classification
Startups are particularly vulnerable to overtime claims since the early stages of any company typically require long days and late hours. A common misconception is that an employee that is paid a salary—as opposed to an hourly wage—is exempt from overtime. In reality, salary is only one piece of the overtime exemption puzzle and employers may be liable for significant overtime if not careful to properly classify their employees.

An employee must meet both a salary and a duties based test. Generally, to qualify for overtime exemption, employees must be paid no less than $455 per week on a salary basis*. There are some exceptions, such a computer employees (for example, computer programmer, software engineer or other similarly skilled worker in the computer field) who may be paid either $455 per week or $27.63 per hour. In addition to the salary requirement, employees must also perform overtime exempt duties. These exemptions are limited to employees who perform relatively high-level work and are typically classified as executive, professional, administrative, computer professionals or commissioned sales employees, among others. Each category contains its own exempt duties. Employees must not only fall within an exempt category, but must perform the primary duties of that category.

The days of compensating interns with only pizza, beer and “the experience of working for a startup” are long gone. Unpaid internships have recently received increased scrutiny from both federal and state departments of labor and have resulted in significant fines for unpaid wages.

Startups should make sure interns are either paid at least minimum wage, receive college credit for the internship, and/or follow a strict training program. If you insist on utilizing unpaid interns, the Department of Labor has published the following six prong test to help you ensure compliance with federal law.

  1. The internship is similar to training which would be given in an educational environment;
  2. The internship experience is for the benefit of the intern;
  3. The intern does not displace regular employees, but works under close supervision of existing staff;
  4. The employer that provides the training derives no immediate advantage from the activities of the intern; and on occasion its operations may actually be impeded;
  5. The intern is not necessarily entitled to a job at the conclusion of the internship; and
  6. The employer and the intern understand that the intern is not entitled to wages for the time spent in the internship.

If all of the factors listed above are met, an employment relationship does not exist under federal law and the minimum wage and overtime provisions do not apply to the intern. It is important to note, though, that some states may have stricter requirements than these.

*In 2016, the DOL proposed an increase to the weekly salary level necessary to qualify for the white collar exemption, from $455 per week to $913 per week. However, in November 2016, a federal court in Texas issued a nationwide injunction blocking the DOL’s proposed salary increase.

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