In plain sight of regulators, N.C. employers skirt the law

When a $52 million sliver of the federal stimulus arrived at the North Carolina Housing Finance Agency in the summer of 2009, nearly 40 developers from Concord to Fayetteville clamored for a piece of the action.

The federal government expected a big return on the capital: housing for the poor and jobs for out-of-work laborers. To ensure that construction firms paid workers appropriate wages, the government wanted proof – weekly payroll reports – from each subcontractor showing they paid workers an hourly rate set by federal officials.

But the regulators who scoured the forms for wage violations had a major blind spot: No one bothered to check adherence to a host of labor laws and tax codes directing employers to pay unemployment taxes and to withhold federal and state income taxes and Social Security taxes from workers’ paychecks. It would have been as easy as checking the withholding boxes on the payroll forms submitted by the contractors.

“That’s never come up,” said Scott Farmer, director of rental investment at the housing agency.

Starting in 2009, Farmer’s team monitored more than a dozen projects to make sure companies followed federal laws and codes. Nearly half of 297 companies working on those projects filed payroll forms indicating they didn’t consider the hourly laborers or mechanics to be employees, a (Raleigh) News & Observer and Charlotte Observer investigation shows.

They left the forms blank for deductions or offered explanations such as “pays own taxes” or “1099 employees.” The newspapers found that more than half of the 2,318 workers who built the projects were classified as independent contractors but should have been employees.

Farmer’s team took no action. Though the federal government had taken steps in the past to combat companies illegally treating employees as contractors, including a $25 million Department of Labor enforcement initiative in 2011, U.S. Department of Housing and Urban Development manuals used by state regulators didn’t address the issue.

When a construction specialist from the agency raised the issue with a HUD official at a training session this summer, he couldn’t get an answer.

“As a topic, it was simply dismissed and not addressed,” said Bob Kucab, executive director of the North Carolina Housing Finance Agency, a self-supporting public agency with a board selected by the governor and leaders of the state House and Senate.

The problem has persisted unchecked for years. The investigation into 64 projects bigger than $1 million that HUD financed in North Carolina from 2009 through 2013 shows widespread misclassification of workers.

More than a third of the 8,700 workers hired in North Carolina were treated as contractors despite meeting federal labor law and internal revenue standards for employment, according to more than a dozen former and current labor and revenue investigators and lawyers who reviewed documents for the newspapers.

The practice persists in multiple industries; it has upended the construction sector. Companies misclassifying employees save at least 20 percent in taxes and insurance, enabling them to submit lower bids than law-abiding competitors. Workers treated as contractors often toil in a dangerous and turbulent industry without the protections of medical benefits if they are injured on the job or a safety net if they are laid off.

And the workers who properly file their taxes bear a higher burden, paying twice as much in Social Security and Medicare taxes because the IRS sees them as self-employed. Many workers don’t pay, though, or report far less of their income to the government, shifting tax obligations to other taxpayers.

Taxpayers’ burden

In North Carolina, the load is heavy. An analysis by the newspapers indicates the government is losing $467 million a year in state and federal taxes from the construction industry as a whole.

Farmer’s team at the housing finance agency was vigilant on the problems HUD trained it to detect, records show. The agency needed to be ready; the stimulus capital brought 10 projects at once, more than three times its normal load.

The monitoring was intense. Farmer’s team pored over the payroll records each week looking for anomalies that might signal a boss cheating a worker. Were the workers using the kind of tools needed for the job? Every worker should earn overtime pay for hours worked over 40.

If a boss tried to deduct for improper items, Farmer’s team intervened. Even though company owners pledged the payroll information was accurate, Farmer’s team deployed to the job sites to confirm with workers that the wages listed were actually paid.

But on the question of whether employees were treated as employees, regulators did nothing. Nor did they ask inspectors at the IRS or Department of Labor to look at the issue.

Alfred Robinson, former acting administrator of the U.S. Department of Labor’s Wage and Hour Division, couldn’t believe the forms were passing muster with HUD regulators. He attributes it to a mentality he has seen in Washington for decades: a lack of collaboration among agencies.

“Whether it’s on federal or state level, it’s not in their DNA to work with another agency,” Robinson said. “They want to be responsible for their area of government. I think it’s somewhat shortsighted.”

Brooke Pointe in Concord

One of the projects backed by the state housing finance agency was Brooke Pointe Apartments, which was built off N.C. 73 in Concord in 2010.

The complex offers renters 106 brick-trimmed units on land that once was home to an aging mobile home park. The well-groomed property, near Interstate 85 and a local mall, includes a community center, playground and picnic shelters.

The target market is renters who make 60 percent or less of the median income for the area, said GEM Management President Danny Ellis, whose Charlotte-based company developed the project with Cary-based Solstice Partners and now manages the complex.

“It’s just good workforce housing,” Ellis said of the project originally called Wexford Pointe.

But many of the workers who built the complex didn’t get such a good deal.

Of these 245 workers, 56 percent were classified as independent contractors by their bosses, instead of employees, according to a review of payroll documents.

At stake for the workers were protections such as unemployment insurance and higher tax burdens.

One of the subcontractors that did not take out taxes for its workers was Shelby-based Playground Safety Services, which installs playground equipment.

At the time, Roger Davis, the company president, said his workers were paid as independent contractors, receiving 1099s. The company considered that approach appropriate, Davis said, but then one of its workers ran into problems with the IRS.

After that, Playground Safety Services decided to make the worker and its other contractors full employees. The change goes back to at least January 2012, he said.

“We’ve never felt like we haven’t followed the letter of the law,” Davis said.

In 2012, a former Playground Safety Services employee also brought a workers’ compensation case against the company, contending the firm should pay chiropractor bills after he was injured on the job, according to N.C. Industrial Commission documents. At issue was whether the worker was an employee or an independent contractor.

A deputy commissioner ruled that the worker was an employee and ordered Playground Safety Services to pay his bills. Davis said he was very satisfied with the outcome of the case, declining to comment further.

Now, Davis said he notices how contractors that don’t withhold taxes can undercut his bids.

“When we bid a job, and the contractor comes back and says you were $2,800 too high, we’re like, ‘Is this guy paying taxes? Is he doing unemployment? Is he doing workers’ comp?’ ” he said. “Of course, they never answer that. We know when we lose a job, there’s a reason for it. It’s either less equipment or not the same quality of equipment or someone’s not following the payroll guidelines.”

General contractor role

The Brooke Pointe project came along at a good time for WB Properties & Construction of North Carolina, the general contractor on the job, said President Brian Smith, whose company is now based in Ocean Isle Beach.

“Construction jobs were pretty far and few between,” he said. “I think we employed around 150 people for about eight months just building that project. So obviously that meant a lot to all those folks.”

On the project, subcontractors turned in their payroll forms to the general contractor, which then delivered the paperwork to the North Carolina Housing Finance Agency. Smith said his company did not focus on whether workers were treated as employees or independent contractors.

“We just collect the data and we proof it to make sure their (job-type) determinations are correct and that it’s filled out properly,” he said. “Then we pass it along.”

If housing agency officials reviewing the forms had any questions, Smith said his company checked back with the subcontractors.

General contractors hired to build publicly funded affordable housing projects sign a contract agreeing to follow all federal and state laws and to make sure the subcontractors they hire do as well.

As for WB Properties & Construction, a general contractor with $40 million in annual revenues, Smith said all of the company’s 40 workers are treated as employees.

But of the 26 subcontractors WB Properties and Construction hired, 11 treated their workers as independent contractors, rather than employees, a possible violation of several labor laws and IRS regulations for the subcontractors.

Silence from HUD

The state housing finance agency had been in the trenches of the anemic economy for years. Aside from financing affordable housing, the agency provided money to help homeowners avoid foreclosures as the mortgage crisis unsettled tens of thousands of families.

The 10 projects the agency helped finance with stimulus money were aimed at employing as many as 1,400 construction workers.

Russell Griffin, the agency’s senior construction specialist and Farmer’s point man on the payroll records, thumbed through the documents collected by general contractors. Now and again, he flagged a problem about wages.

It wasn’t until 2012, as he administered the last of the stimulus projects, that a contractor called Griffin to alert him to misclassification. It’s not fair, the contractor told him. The companies were putting their workers in a predicament, and they undercut companies trying to follow the law.

Griffin told Farmer about the call. Agency leaders couldn’t understand why HUD had never mentioned this issue if it could pose such a problem for workers and contractors.

The agency is now committed to weeding out the problem on projects in which it is involved. Kucab, the director, said staffers are assembling guidelines of employment practices to give to developers who handle projects under their watch. Agency leaders say they wished they had known of the problem sooner, before they sent $52 million to the projects.

“We didn’t know enough to know this was a growing concern in the industry,” Farmer said. “Some of these subs have probably been doing this for years. They got bad advice somewhere along the way.”