Dual Wage Misclassification: Three Red Flags

Disclaimer: All views expressed in this article are my own and do not represent the opinions of any entity with which I have been, or am now, affiliated.

Workers compensation premium fraud involves an employer misrepresenting its risk to an insurer with the intention of reducing its premiums.

Premium fraud within the construction industry is particularly prevalent. Driven by the large premiums associated with this high-risk work, payroll underreporting, ex-mod evasion and the misclassification of employees as independent contractors is common.

Dual wage misclassification, while also prevalent, is hard to identify and is discussed infrequently. This fraud not only impacts an insurer’s bottom line but is an existential threat to honest businesses trying to compete against the unscrupulous companies that benefit from low premiums through fraud. Dual wage misclassification red flags tend to be subtle and difficult to identify without a trained eye. It often, therefore, goes unnoticed. Insurers that focus on educating Claims Adjusters, Underwriters and Auditors on how to spot dual wage misclassification red flags are likely to see a significant return on investment.

What Are Dual Wages?

Three important points to note before we get into it:

1.??????Dual wage class codes are exclusive to California – they are not found anywhere else in the country

2.??????They are also exclusive to the construction industry - think Carpentry, Roofing, Plastering, Cement and Concreting etc.

3.??????There are only 16 different dual wage class codes in total (the WCIRB provides a comprehensive list on its website).

One way of explaining the theory behind dual wages is through the context of auto insurance. Let’s say Mike, an 18-year-old with less than one years’ worth of driving experience, applies for an auto policy. At the same time, Dave, a 50-year-old with 30 years of driving experience also applies for insurance. Mike is likely to pay more in premiums because his lack of driving experience places him at greater risk of being involved in an accident. The same can be said for the relationship between the experience level of a construction worker and their chance of sustaining work-related injuries. This is where dual wage class codes come in…

Let’s now assume that Mike and Dave both happen to be Roofers. Mike, the 18-year-old, is an apprentice with 6 months’ experience under his belt while Dave is a veteran Roofer with 30 years’ experience. Who is more likely to suffer an injury?

The 16 dual wage risks (of which Roofing is one), are each associated with two class codes. One class code is for inexperienced workers (Roofing class code 5552) while the other class code is for experienced workers (Roofing class code 5553). Given that a construction worker’s rate of pay usually increases in line with their level of experience, the WCIRB uses pay rates to distinguish between inexperienced and experienced workers. The WCIRB sets an ‘hourly rate threshold’ to determine 5552 workers from 5553 workers. The hourly rate threshold for Roofing work currently sits at $29 (it increases every two to three years, tracking payroll inflation).

A Roofer earning below $29 per hour will be considered a low wage 5552 workers while a Roofer earning $29 or above per hour, will be considered a high wage 5553 worker.?

The hourly rate threshold varies between each of the 16 dual wage class code risks. For example, the Carpentry dual wage class codes, 5403 and 5432, have a threshold of $39 and the Plastering dual wage class codes, 5484 and 5485, have a threshold rate of $36.

What does this all mean for an employer? Well, Mike and Dave might both be Roofers but the gulf between them in terms of experience level essentially makes them two completely different risks to insure. This is reflected in the premium associated with each of their respective class codes with the 5552 class code being about twice as expensive to insure than the 5553 class code.

Dual Wage Misclassification Red Flags

Typically, when we think about misclassification, we think of the Tree Trimmer being misclassified as a Landscaper, or the Janitor being misclassified as a Clerical worker. With dual wage misclassification it is the low wage 5552 worker being misclassified as a high wage 5553 worker.

A company with $5 million in low wage 5552 payroll will pay just over $1,000,000 in premiums. By misclassifying that $5m of payroll into the 5553 class code, its premium would more than halve, to about $485,000.

The three main red flags for dual wage misclassification that Claims Adjusters, Auditors, Underwriter and SIUs should be aware of and on the lookout for when dealing with any construction account, are:

1.??????Very Specific, Part Time Hours Identified on Payroll Reports and Timecards

By far the two most important documents when it comes to dual wages are timecards and wage statements. These documents can be found within claims and/or at audit. Detailed weekly timecards must be maintained by a construction company for all its high wage workers. These timecards must be compliant with strict specification requirements set out by the WCIRB. The timecards must be original and provide the following details: clock in and clock out times, days worked, total hours worked per day, total hours worked per week, hourly rate of pay and gross weekly pay. If timecards are not maintained or they are not WCIRB compliant, the worker will be classified into the low wage, high premium class code.

This can be problematic for an employer engaging in dual wage misclassification for the following reason. Let’s say our Roofer friend, Mike, the 18-year-old apprentice Roofer, works 40 hours per week at $20 per hour. His gross weekly pay would be $800. Mike’s true and accurate timecard would reflect the fact he worked five days per week, Monday through Friday, eight hours per day, 8am through 5pm with a one-hour lunch break.

In order to misclassify Mike as a 5553 high wage worker, however, his employer must represent to the insurer that they pay him $29 per hour. Of course, they don’t really pay him this much (in reality they are still only paying him $20 per hour and $800.00 per week), but they need to convince the insurer that they are.

This means manipulating Mike’s timecard and wage statement. It would only take Mike 27.58 hours to earn $800.00 at a rate of $29 per hour. The employer must therefore ensure Mike’s timecards and wage statements reflects these very specific, part time hours.

There are two red flags here. Firstly, construction workers typically don’t work part time. General contractors want a job done as quickly as possible and usually will not accept a project taking four weeks when it could be done in two had all employees been working full time. Secondly, the hours worked (27.58) are incredibly specific, down to the second. It is unlikely that the employer really keeps such specific timecards (usually they round up or down).

If, while reviewing claims or audit documentation, you notice that the timecards and wage statements for high wage workers indicate that they work very specific, part time hours, you may wish to investigate further – conducting a policy review, further claims reviews, attending the audit and scrutinizing additional documentation etc.

2.??????Discrepancies Between Verbal and Written Accounts Provided by the Employer and Employees Regarding Hours Worked and Hourly Rates of Pay

If Mike were to make a workers’ compensation claim, he might be deposed and testify to working full time, forty hours per week, Monday to Friday, at $20 per hour.

Meanwhile, his colleague might be interviewed by a Claims Adjuster and corroborate Mike’s testimony, confirming that Mike was indeed a full-time worker earning $20 per hour.

The owner of the company, however, might state to the Claims Adjuster that Mike is part time and earns $29 per hour.

Discrepancies such as these between the owner and employee accounts regarding the number of hours worked and rates of hourly pay are significant dual wage misclassification red flags.

3.??????Large Swings in Payroll Ratios

If a construction company has a fairly even ratio of high wage to low wage payroll over the years and then all of a sudden there is a large shift with a significant increase in high wage, low premium payroll and a large decrease in low wage, high premium payroll, dual wage misclassification may be a concern.

For example, a carpentry company may have approximately $5 million in 5552 payroll and $4 million in 5553 payroll for three straight years. Then, all of a sudden and without warning, from one year to the next there is a significant swing in ratios. The amount of 5552 payroll reduces to $500,000 while the 5553 payroll increases to $10 million.

This is made even more concerning if the claims start exhibiting dual wage misclassification red flags at or around the same time as this shift in payroll ratios occurs.

?Conclusion

More needs to be done to tackle dual wage misclassification. Its impact is severe and wide reaching. The consequences of this fraud on honest businesses can be completely devastating.

Learning the theories and concepts behind dual wages and dual wage misclassification is a great start. Actively searching for the red flags mentioned above is the best way to spot this fraud and stop it in its tracks.

About Me: I am a fraud investigator who specializes in workers' compensation premium fraud investigations and Open Source Intelligence research