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U.S. Department of Labor Futurework
  Trends and Challenges for Work in the 21st Century
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Flexible Staffing Arrangements

A Report on Temporary Help, On-Call, Direct-Hire Temporary, Leased, Contract Company, and Independent Contractor Employment in the United States

Susan N. Houseman
August 1999

9.6 Regulation of Employee Benefits

In addition to mandating that employers provide benefits to employees, federal employment and tax law regulates the provision of benefits such as pensions and health insurance. No law requires an employer to provide such benefits to employees, and an employer is free to provide these benefits to a select group of workers. However, the benefit plan must meet certain conditions specified in the Employee Retirement Income and Security Act (ERISA) and IRS tax code in order to receive favorable tax treatment. The purpose of these requirements is to ensure that the beneficiaries of such in-kind, tax-free or tax-deferred income are not primarily highly compensated employees. Under ERISA, a tax-qualified pension plan must cover at least 70 percent of all non-highly compensated employees who worked 1000 hours or more over the last 12 months. However, even with these restrictions, many on-call, seasonal, and other workers in flexible staffing arrangements may be excluded from pension plans. The requirements for a health insurance plan to qualify for tax-exempt status are less stringent than for a pension plan. In particular, companies are free to exclude any part-time worker from a health insurance plan.21

Independent contractors are not employees of the client company and thus are not eligible to receive tax-free benefits from the company. If the company chooses to include an independent contractor in its health insurance plan, the contractor must pay income taxes on the value of the benefit. If the company includes an independent contractor in its pension plan, it risks losing the tax exempt status of the plan.

Many are concerned that employers use independent contractors, agency temporaries, contract workers, and leased employees, in part, to avoid classifying certain groups of workers as employees and thus to circumvent ERISA and IRS rules governing benefits. This problem has spurred much litigation in recent years over employee and joint-employer status. As discussed above, these issues have not been fully resolved.

(21 )Section 89 of the Tax Reform Act of 1986 required that those working 17.5 hours per week be included in a company's health insurance plan to qualify for tax preference status. However, Congress repealed this provision in 1989. For a discussion of this issue, see Schwab (1995).

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