An independent contractor is an individual or business provides something of value in return for money on a per job basis, or when required. The terms of an independent contractor’s work are based on a verbal or written agreement, and are subject to the law of agency.
Three main criteria determine whether a real estate agent is an independent contractor:
the agent is licensed
the agent is paid commissions in place of an hourly wage or a salary
the agent has a written agreement with a broker indicating the agent’s independent contractor status
If all of these criteria apply, the IRS will tax the agent as an independent contractor.
Taxes and Independent Contractor
A broker must indicate an agent’s status as an independent contractor. This allows an agent to avoid paying federal withholding taxes, and to contribute to such things as mandatory employee social security tax and worker’s compensation coverage.
An agent’s independent contractor status precludes him or her from claiming unemployment insurance. California’s Unemployment Insurance Act currently bars commission-based workers from receiving unemployment benefits.
Broker’s Responsibility to Agents and Independent Contractor Status
Section 101777 (h) of the Business and Professions Code states that the most important duty of a broker is to supervise agents.
In the past, brokers would use an agent’s independent contractor status as a way of avoiding any liability for negligence on the part of that agent. However, the law has been recently expanding to recognize a broker’s responsibility.
Respondeat superior establishes that the “superior” party in a relationship — in this case, the broker — can be held liable for the actions of their “inferiors”. Although a broker cannot supervise everything an agent does, the broker does have a duty to verify deals that the agent submits to the broker’s office. This means checking for the presence of legal disputes, as well as any negligence on the part of the agent. It also means assisting agents with complex real estate provisions, such as seller carry back clauses.
If a broker discovers that his or her agent is engaging in illegal or unethical activity, the broker has a duty to intervene. He or she must take appropriate steps to end the agent’s misconduct, which may include informing the authorities, contacting the Department of Real Estate, and/or informing the violated party of the agent’s misconduct. Typically, brokers are not liable for an agent’s intentional torts or criminal misconduct. An exception arises if the broker was aware of the misconduct and failed to reasonably prevent it from continuing. In this case, the broker could be held liable.
Defined Roles for Independent Contractors
The roles within a broker/agent agency should be clearly defined so as to prevent potential liability for either party. However, legal action against an agent and/or a broker may still arise despite a broker’s best intentions and meticulous precautions. Consequently, a broker is advised to purchase general liability insurance and errors and omissions coverage to avoid the damaging losses that can result from an agent’s negligence. (These kinds of coverage do not cover intentional fraud.)
It is also advisable for brokers (even those in small offices) to hold California worker’s compensation. Although not required by law, worker’s compensation can prevent substantial losses in the event of an agent’s negligence or misconduct.
Agents are Employees of a Broker However are Independent Contractors for Tax Purposes
An employee is an individual who works for, and under the supervision of, an employer in return for a salary, hourly wage, or commission.
From a liability standpoint, real estate agents are considered employees of a broker/brokerage. This is because agents technically work under a broker’s supervision. Agents use a broker’s office, contracts, and resources to execute real estate transactions, and brokers verify that agents follow all procedures properly
However, agents render services on behalf of their principals, not their brokers. Agents create their own business and company policy, and manage their clients and schedules as they wish. Thus, brokers have no say in how an agent conducts himself or herself (as long as an agent’s actions are legal or ethical).
That is why for tax purposes, agents are characterized as self-employed independent contractors.
Independent Contractors Are Employees of a Broker for Legal Purposes but Not for Tax Purposes
From a legal standpoint, real estate agents are technically employees of a brokerage; however, most agents operate independently using their own method of business and practice. Although agents are technically employed by brokers, they are typically non-salaried and do not collect wages. Therefore, the agent has the liberty to conduct business within a reasonable degree of variation.
Real estate agents operate by using the platform (paperwork, contracts, company name) provided by the brokerage with which they are working. Because real estate agents are employees of brokers, brokers are responsible for agent’s activity and assume some liability with their agent’s transactions. Agents commonly file taxes as independent contractors for tax purposes.
Independent Contractor Status Explained
An independent contractor is a party that provides independent services and is not an employee. Whether someone is an independent contractor depends on the facts of each person. For the purpose of real estate, agents are independent contractors for tax purposes; however, agents are listed as employees of brokers for legal reasons.
The general rule for determining whether an individual is an independent contractor or not is dependent on the individual’s right to control or direct his or her own work which, in the case of real estate agents and brokers, they do have the right to perform their own work. Independent contractors may perform tasks in any manner they see fit to achieve the goals of the hiring party, unless such activities are considered a violation of the law. A party is not an independent contractor if an employer controls it.
Whom Is and Is not an Independent Contractor
Salespersons and brokers associates are employees of the supervising broker; however, as mentioned above, for tax purposes, they are considered independent contractors. For the independent contractor status to be executed, a contract between salespersons and brokers must indicate the independent contractor nature of the parties engaged. According to Business and Professions Code Section 100032, the independent contractor status of salespersons and broker associates does not reduce the liability for supervising brokers.
Independent contractors are typically compensated on the result rather than the time it takes to complete task. Methods used to successfully complete a task are at the discretion of the independent contractor. Agents can be employees for a specific purpose, while at the same time being independent contractors for other purposes.
Case Law Relating to Independent Contractor
Case Review: Barry v. Raskov (1991)
The case, Barry v. Raskov (1991) 232 Cal.App.3d 447., involved a novice investor lender who brought action against a loan broker, alleging fraud and misrepresentation.
Barry was a retired person with a large savings account however had no investment experience. A mortgage loan broker (Raskov) told Barry about the benefits of investing in home loans. His company provided borrowers who could not obtain loans from banks or other loan institutions due to poor credit with a high interest loan. Raskov said that any investment Barry made would be guaranteed “one hundred per cent” and that he “would not lose one cent”.
Raskov said Barry could invest $55,000 into a borrower’s second mortgage that had a first trust deed of $100,000 and earn 23% on the investment, plus more over time. Raskov hired an appraiser who valued the borrower’s property at $400,000. Raskov told Barry that his investment would be protected as the property’s value was significantly higher than the totaling loan amounts. Barry agreed to invest the $55,000, and Raskov made $30,000 in commission.
However, the borrower immediately defaulted on the loan, and Barry began losing his promised monthly earnings. Upon further inspection, Raskov learned that the borrower’s property value was actually only $98,000, not the appraised value of $400,000. Barry filed suit against Raskov.
The Superior Court ruled in favor of Barry, but did not hold Raskov liable for punitive damages. Upon appeal, the Court of Appeals did rule that Raskov was liable to Barry for fraud and negligence in his failure to independently verify the appraiser’s property report. The court determined that the employer of an independent contractor — in this situation, Raskov employed the appraiser — will be liable for the contractor’s torts.
