Preventing Independent Financial Advisors from Being Forced to Become Employees of their Broker-Dealers

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    FSI has fought for years – both in the states and in Washington, D.C. – to prevent independent financial advisors from being forced to become employees of their Broker-Dealers. This assault on advisors’ independent contractor status never ceases as states and the federal government are on a constant revenue grab and see this issue as a way to fund their coffers.

    While many times the legislators are correct that some independent contractors are really employees of the company, that isn’t the case with independent financial advisors, who are true small business owners who are only affiliated with their broker-dealers.

    Yet, the assault never ends, and FSI has been on the front lines defending our members.

    The classification of workers as independent contractors is an issue of great interest on Capitol Hill in particular. During the 112th Congress, Senator John Kerry (D-MA) and Rep. Jim McDermott (D-WA-7) introduced The Fair Playing Field Act of 2012 (FPFA) (S. 2145 and H.R.4123).

    These bills had serious unintended consequences for independent broker-dealers by eliminating the “longstanding recognized practice” safe harbor of Section 530 and increasing the financial penalties for employers who misclassify workers as independent contractors without a reasonable basis

    These bills were identical to previous legislative proposals before the 112th Congress in that they sought to repeal the “longstanding recognized practice” safe harbor of Section 530 of the Revenue Act of 1978which relieves a company from liability for employment taxes if it can demonstrate a reasonable basis for treating workers as independent contractors.

    Additionally, the FPFA would have required employers to give all independent contractors a written statement (to be developed by the Department of Treasury) informing them of:

    1. Their federal tax obligations;
    2. That labor and employment law protections do not apply to independent contractors;
    3. And of their right to obtain a worker status determination (Form SS-8) from the IRS.

    Lastly, the FPFA would have increased the penalties for improperly classifying an employee as an independent contractor.

    Classification of Registered Representatives of Independent Broker-Dealers as Independent Contractors is Justified

    The independent broker-dealer (IBD) business model focuses on offering financial solutions to clients who constitute the backbone of America’s investor class. Financial advisors associated with IBD’s serve “Main Street Americans” – families able to invest only tens or hundreds of thousands of dollars. The IBD business model provides those investors with access to products and services that maximize their ability to achieve their financial goals. The IBD industry is able to efficiently serve consumers and offer services at affordable prices because the primary business relationship is between the financial advisor and the consumer, not the broker-dealer and the consumer.

    The IBD industry is a network of financial advisors who operate with maximum flexibility and who are responsible for all of their business operations. These independent financial advisors are small business owners and entrepreneurs who usually own or rent their own office, employ their own staff, and are subject to inspection primarily for securities laws compliance. In the U.S., approximately 64% percent of all practicing registered representatives operate as self-employed independent contractors. The relationship between a registered representative and an IBD firm makes it clear that registered representatives associated with IBD firms are properly classified as independent contractors.

    Elimination of Safe Harbor in Section 530

    The FPFA sought to eliminate Section 530 and its safe harbor language. The bill authors noted that Section 530 was intended to be an “interim measure,” but have become a permanent safe harbor. Therefore, “in the interest of fairness and in view of many service recipients’ reliance on current section 530,” the FPFA would have directed the Secretary of the Treasury to issue guidance to workers and businesses on a prospective basis only. Elimination of Section 530 would have occurred one year after the date of enactment of the act.

    Section 530 has functioned effectively for over thirty years. Eliminating the current safe harbor would discourage entrepreneurship and damage our fragile economy. These general concerns would be further heightened in the independent broker-dealer industry. Under Section 530, if an employer has a reasonable basis for treating the worker as an independent contractor, that classification will be accepted by the IRS. For an employer to be eligible for relief under Section 530, it must be able to show a “reasonable basis” for its independent contractor classifications.

    A “reasonable basis” requires reliance upon: (1) prior judicial rulings, published rulings, or technical advice memoranda or private letter rulings with respect to that taxpayer; (2) a private IRS audit in which employment tax deficiencies were not assessed for amounts paid workers holding positions substantially similar to the workers in question; and (3) a long-standing, recognized practice of the industry in which the worker is engaged to treat such workers as independent contractors.

    Treatment of Securities Broker-Dealers in the Fair Playing Field Act of 2012

    The FPFA stated, “In determining for purposes of the Internal Revenue Code whether a registered representatives of a securities broker-dealers is an employee, no weight shall be given to instructions from the service recipient which are imposed only in compliance with investor protection standards imposed by the Federal Government, any State government, or a governing body pursuant to a delegation by a Federal or State agency.”

    This language is identical to the Taxpayers Relief Act of 1997 (1997 Act), which was designed to work with Section 530 of the Revenue Act of 1978 to provide a safe harbor by permitting IBD’s to exercise legally-required supervisory responsibilities over associated registered representatives without giving up the right to classify the workers as independent contractors. Unfortunately, the language in the FPFA was not written as a safe harbor. While the act incorporated the language from the 1997 Act, it also attempted to eliminate Section 530 from the Revenue Act of 1978. Instead, the FPFA would have directed the IRS not to consider compliance with investor protection standards (imposed by a regulator or self-regulatory organization (SRO)) as a sufficient determination of control when establishing independent contractor status.

    Court Ruling Acknowledges the Legitimate Use of Advisor Independent Contractor Status

    On February 1, 2013, the U.S. District Court for the Southern District of California recognized that financial advisors in the IBD industry are properly classified as independent contracts. In a suit brought by a former financial advisor against the broker-dealer firm Waddell & Reed, the court rejected the argument alleging that the firm misclassified the advisor’s employment status. The court found that allegations of “control” pursuant to legal requirements are not indicia of employment, and that the advisor was appropriately classified as independent contractors.


    These changes to the IRS Code would have imposed significant negative unintended consequences for FSI members. If IBD’s were forced to reclassify their financial advisors as employees, the additional costs and compliance burdens would cripple their ability to remain profitable while also providing the services needed by their advisors and their clients. Independent broker-dealers could be subject to substantial back taxes, penalties, and interest payments. As a result, the status of this successful and necessary business model would have been significantly threatened.

    Any move to eliminate the independent contractor status without carving out our industry would undermine the entrepreneurial spirit and the independence that is so vital to the advice, products, and services provided by independent financial advisors to their clients. Additionally, repeal would wipe out the “sweat equity” independent financial advisors have built in their own small businesses and eliminate their ability to determine how to best serve their clients. This would be a tragedy for middle class investors who have come to rely upon the unbiased professional financial services they receive from their local independent financial advisor.

    For these reasons, FSI urges Congress and the Administration to exempt IBD’s and their financial advisors from any future worker classification legislation that may be considered in the 113th Congress as well as any other attempts to narrow or eliminate the safe harbor provision of Section 530.


    Cerulli Associates at
    For a full analysis of the proper classification of financial advisors associated with independent broker-dealer firms for the purposes of employment taxes, please see the July 9, 2008 legal memorandum prepared by the McIntyre Law Firm, PLLC for the Financial Services Institute.


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