Journal of Business and Behavioral Sciences Volume 23, Number 1 issn 1946-8113 Spring 2011 inthis issue

The worker classification issue is not new, but evidence suggests that many businesses still misclassify workers. This misclassification can result in significant cost to an employer. The information presented in this paper is intended to clarify the differences that exist between independent contractors and employees. The common law factors and illustrative examples provide a better understanding of how the IRS determines worker classification. However, there are situations that arise where determining a worker‘s classification can be more difficult. In these situations, it is advised that the employer or employee consult with the IRS or a tax professional in order to obtain further guidance. Additionally, the IRS Form SS-8, Determination of Worker Status for Purposes of Federal Employment Taxes and Income Tax Withholding, can be filed, and the IRS will determine the correct worker classification for the given situation.

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303 West 42nd Street Enterprises, Inc. v. Internal Revenue Service and United

States of America, U.S. Tax Court, 99-2 USTC ¶50,611, (June 18,

1999). Berson, S. (2003). Distinguishing Between Independent Contractors and

Employees: Part 1. Corporate Business Taxation Monthly, Vol. 4, Issue

6, p. 12. Center For A Changing Workforce (CFCW). (2004). Independent Contractors.

[on-line]. Available HTTP: http://www.cfcw.org/inde-cont.html. JJR, Inc. v. United States, U.S. District Court, 97-1 USTC ¶50,411, (January 3,

1997). Ren-Lyn Corporation v. United States of American, U.S. District Court, 97-1 USTC ¶50,385, (April 4, 1997).

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The University of Montana – Missoula

Washington State University

In the United States, tort reform and punitive damages awards are now standard ―buzzwords‖ in political campaigns and the media. These issues are cause for concern, given that costly judicial awards result ultimately in the allocation of expenses to consumers.

According to The National Law Journal, the median ratio of punitive to compensatory damages was 3:1 in 2001. In 2002, the ratio rose dramatically to 4.4:1. However, the ratio dropped to 1.6:1 in 2003, the year that Campbell was decided, and further decreased to 0.7:1 in 2004. The size of punitive damages awards is also decreasing. In a 2003 survey of the top 100 U.S. jury verdicts, the median award for punitive damages was $40 million – a 60 percent drop from 2002. The size of punitive damages awards is on the decline and the difference between punitive and compensatory damages is becoming less variable. In other words, the average ratio between the two is beginning to show a smaller gap.

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The precipitous drop in the size of punitive damages awards is welcome news for businesses in the United States. Although Campbell is the landmark case in terms of tort reform efforts, other judicial opinions have solidified its approach, which offers a more objective and quantifiable standard for determining punitive damages. One of the decisions relying on Campbell is Exxon, which was decided in 2008 under federal maritime laws and thus is distinguishable from Campbell. However, Exxon still sends an important message regarding the amount of damages – and thus the degree of risk – to which U.S. businesses might be exposed.

TORT REFORM AND CAMPBELL

Punitive damages as defined by the Restatement (Second) of Torts (1997) are non-compensatory damages assessed against tortfeasors to punish outrageous conduct and to deter similar conduct in the future. Although courts tend to tightly regulate the amount of compensatory (ordinary) damages awarded by juries, few constraints have been placed on the size of punitive damages awards. On April 7, 2003, the U.S. Supreme Court joined a national discussion on the issue of determining when punitive damages become ―excessive.‖ In State Farm Mutual Automobile Ins. Co. v. Campbell, 538 U.S. 408 (2003), the Court held that punitive damages – when compared with compensatory damages – generally cannot exceed a single-digit ratio (State Farm Mutual Automobile Ins. Co. v. Campbell, 2003).

With its comparison of punitive damages awards and compensatory damages awards, Campbell – according to an annual review of the 100 largest jury verdicts compiled by The National Law Journal – has wielded significant influence since being handed down in 2003. The U.S. Chamber of Commerce, in its survey of 76 punitive damages awards decided after Campbell, found that the ratios between punitive damages and compensatory damages have been adjusted to more closely align with the standard set forth in Campbell. In addition, the survey found that, when juries recommended awards of more than $1 million, judges typically lowered the punitive damages to reflect a punitive-to-compensatory ratio of less than 10:1. Nearly all stakeholders agree that Campbell was a landmark decision for punitive damages; the more substantive question seems to be whether the decision will continue to affect punitive damages awards in future disputes.

DUE PROCESS UNDER BMW V. GORE

Seven years prior to Campbell, the U.S. Supreme Court reviewed the issue of the size of punitive damages awards. In BMW of North America, Inc. v. Gore, 517 U.S. 559 (1996), the Court, relying on the due process clause of the Fourteenth Amendment, held that awarding punitive damages is subject to constitutional restrictions.

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The jury found that BMW had acted with ―gross, oppressive or malicious fraud‖ and awarded Gore $4 million in punitive damages and $4,000 in compensatory damages (a ratio of 1,000:1). Contending that this ratio violated the Fourteenth Amendment‘s due process clause, BMW appealed to the Alabama Supreme Court. Although the Alabama Supreme Court upheld the ruling, it reduced the punitive damages award to $2 million – a 500:1 ratio.

The Gore Court held that the due process clause prohibits a state from imposing a ―grossly excessive‖ punishment on a tortfeasor. Although the Gore Court did not define a quantifiable litmus test for an acceptable ratio between punitive damages and compensatory damages, it did establish three subjective guideposts for determining the constitutionality of a punitive damages award: (1) the ―reprehensibility‖ of the defendant‘s conduct; (2) the ratio of punitive to compensatory damages in light of the harm suffered; and (3) civil or criminal sanctions for comparable misconduct (BMW of North America, Inc. v. Gore, 1996).

THREE SUBJECTIVE GUIDEPOSTS FROM GORE

The reprehensibility of the defendant‘s conduct, Gore’s first subjective guidepost, is revealed by ―aggravating factors,‖ including (i) whether the harm suffered was physical as opposed to economic; (ii) whether the defendant‘s conduct exhibited a reckless disregard for the health or safety of others; (iii) the financial vulnerability of the victim; (iv) whether the defendant‘s misconduct was repetitious as opposed to an isolated incident; and (v) whether the harm resulted from intentional malice, trickery, or deceit or was the result of a mere accident. The Court determined that BMW exhibited none of the egregious factors indicating ―sufficiently reprehensible‖ conduct to justify such a substantial punitive damages award (BMW of North America, Inc. v. Gore, 1996).

The second Gore subjective guidepost turns on the disparity between the plaintiff‘s actual or potential harm suffered and the amount of punitive damages levied against the defendant. The Court refused to adopt a ―categorical approach‖ or a ―simple mathematical formula.‖ Relying more on qualitative factors, the Court agreed that a 500:1 ratio was ―breathtaking‖ – especially in light of the

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easily calculable and purely economic harm suffered by Gore (BMW of North America, Inc. v. Gore, 1996).

The third of Gore‘s subjective guideposts, the difference between the amount of the punitive damages award and the potential statutory criminal or civil sanctions that could be imposed for the same action, acknowledges legislative attempts to regulate similar behavior. In Alabama, the maximum penalty for a violation of the Deceptive Trade Practices Act was $2,000, and similar penalties imposed by other states across the country were capped at only $10,000. The Court found ―no basis for assuming that a more modest sanction would not have been sufficient to motivate full compliance with the disclosure requirement‖ (BMW of North America, Inc. v. Gore, 1996).

The U.S. Supreme Court reversed and remanded the decision of the Alabama Supreme Court. Seven years later, the Campbell Court added more specificity to Gore’s subjective guideposts and changed how punitive damages are awarded.

Curtis Campbell (Campbell) was driving his vehicle in Utah in 1981 while accompanied by his wife. He attempted to pass six vans on a two-lane state highway. Todd Ospital was approaching from the opposite direction and swerved onto the highway‘s shoulder in an attempt to avoid colliding with Campbell. Ospital‘s vehicle crashed into another vehicle driven by Robert Slusher. Ospital died as a result of the collision, Slusher was permanently disabled, and the Campbells walked away without any injuries.

Wrongful death and tort claims were filed against Campbell, who denied that he was at fault. State Farm Mutual Automobile Insurance Company, Campbell‘s insurer, contested liability. For reasons that remain unexplained, State Farm refused offers from Slusher and Ospital‘s estate to settle for $25,000 per claimant, or Campbell‘s aggregate policy limit of $50,000. State Farm representatives told the Campbells that ―their assets were safe, that they had no liability for the accident, that [State Farm] would represent their interests, and that they did not need to procure separate counsel‖ (State Farm Mutual Automobile Ins. Co. v. Campbell, 2003).

The trial jury, finding Campbell solely at fault, awarded the plaintiffs $185,849. This amount significantly exceeded the $50,000 offered in settlement. State Farm paid only $50,000, the policy limit, leaving Campbell to pay the remaining amount owed on the judgment ($135,849). State Farm‘s counsel told Campbell, after the jury had decided against Campbell, ―You may want to put

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Campbell hired his own attorney and appealed. Three years after the accident, while the appeal was pending, Campbell entered into an agreement with Slusher and Ospital‘s estate. In accordance with the agreement, both Slusher and Ospital‘s estate agreed not to pursue Campbell for satisfaction of their judgments and, in exchange, Campbell agreed to bring suit against State Farm for bad faith. In addition, Campbell agreed that the attorneys for Slusher and Ospital‘s estate would represent him in the bad faith lawsuit and that he would pay to Slusher and Ospital‘s estate 90 percent of any verdict returned against State Farm.

After Campbell‘s appeal involving the wrongful death and tort claims was denied in 1989 by the Utah Supreme Court, State Farm agreed to pay Slusher and Ospital‘s estate the total judgment of $185,849. Campbell nevertheless filed suit in Utah state court against State Farm ―alleging bad faith, fraud, and intentional infliction of emotional distress‖ (State Farm Mutual Automobile Ins. Co. v. Campbell, 2003). In alleging bad faith on the part of State Farm, Campbell argued that it was unreasonable for State Farm to contest liability and put the Campbells‘ assets at risk. Campbell argued that by contesting liability and placing the Campbells‘ assets at risk, State Farm had subjected itself to a claim for violating the implied covenant of good faith and fair dealing. In other words, Campbell maintained that State Farm‘s actions amounted to bad faith.

The bad faith trial consisted of two phases. In the first phase, the jury determined that State Farm – in deciding not to settle – had acted unreasonably because there was a substantial likelihood of an excess verdict. In the second phase of the trial, the court addressed State Farm‘s liability for fraud and intentional infliction of emotional distress. In arguing that punitive damages were not appropriate, State Farm claimed that it had committed an ―honest mistake‖ by deciding to proceed to trial. Campbell responded by introducing evidence that State Farm‘s decision to take the case to trial resulted from a ―national scheme to meet corporate fiscal goals by capping payouts on claims companywide‖ (State Farm Mutual Automobile Ins. Co. v. Campbell, 2003).

The jury awarded Campbell $145 million in punitive damages and $2.6 million in compensatory damages. The trial court reduced the punitive damages award to $25 million and the compensatory damages to $1 million. Both Campbell and State Farm appealed. The Utah Supreme Court applied the three subjective guideposts identified in Gore and reinstated the $145 million punitive damages award (145:1 ratio).

State Farm appealed the state court decision to the U.S. Supreme Court, which held that an award of $145 million in a case that awards $1 million in

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In analyzing the degree of ―reprehensibility‖ of the defendant‘s misconduct, the Court held that all five ―aggravating factors‖ need not be present to demonstrate reprehensibility, but that an absence of one or more aggravating factors makes reprehensibility ―suspect‖ (State Farm Mutual Automobile Ins. Co. v. Campbell, 2003). Because Campbell‘s harm was merely economic and State Farm‘s conduct was not in disregard for the health and safety of others, reprehensibility was found to be suspect. The Court, however, was troubled by what it deemed to be trickery/deceit on the part of State Farm when State Farm told its financially vulnerable policyholders first that their assets would be secure and then later that they needed to sell their house to pay the court judgment.

In arguing that State Farm‘s reprehensibility was evidenced by its recidivism, Campbell presented evidence of State Farm‘s allegedly deceptive insurance practices on a national basis. However, many of these practices were legal in the states where they occurred. Because the due process clause precludes punishment for acts that are legal where they take place, they could not be considered in deciding punishment. In addition, the Court found that the conduct used to indicate recidivism ―bore no relation‖ to the conduct causing harm to the Campbells (State Farm Mutual Automobile Ins. Co. v. Campbell, 2003).

The Court determined that, in calculating punitive damages, due process prohibits courts from adjudicating the merits of other parties‘ hypothetical claims against a defendant (under the guise of the reprehensibility analysis). The Court stated that ―no doubt the Utah Supreme Court did that here‖ (State Farm Mutual Automobile Ins. Co. v. Campbell, 2003). The Court found that – because the Campbells presented only scant evidence of repeated misconduct similar to the type that harmed them – the only relevant conduct in the analysis is what was harmful to the Campbells specifically. The Court held that the isolated incident, despite being part of 20 years of general malfeasance, did not justify the enormous punitive damages award.

The second Gore guidepost examines the disparity between the plaintiff‘s actual or potential harm suffered and the amount of the punitive damages award. Although it declined to establish an absolute standard, the Campbell Court held that going beyond a single-digit ratio will generally violate due process. As a result, single-digit (less than 10:1) ratios between punitive damages and compensatory damages are more likely to comply with due process and still achieve the desired goals of deterrence and retribution (although the Campbell Court did note some instances in which double-digit ratios may be appropriate).

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The Court, emphasizing that ―courts must ensure that the measure of punishment is both reasonable and proportionate to the amount of harm to the plaintiff and to the general damages recovered,‖ stated that ―we have no doubt that there is a presumption against an award that has a 145-to-1 ratio. The compensatory award in this case was substantial; the Campbells were awarded $1 million for a year and a half of emotional distress.‖ The Court, pointing to the guideposts in Gore, held that they ―must be implemented with care, to ensure both reasonableness and proportionality‖ (BMW of North America, Inc. v. Gore, 1996).

The Campbell Court then considered the third Gore guidepost, which analyzes the difference between punitive damages awarded and penalties authorized by statutes appropriate in similar cases. Because the lower burden of proof in a civil trial (preponderance of the evidence) could give way more easily to a criminal sanction (beyond a reasonable doubt), the Court cautioned against the relevance of comparable criminal sanctions in determining the amount of the award. The Court thus looked to civil sanctions available pursuant to Utah law. Finding a $10,000 fine for grand fraud to be the most relevant civil sanction for the wrong committed against Campbell, the Court noted that this penalty was ―dwarfed‖ by the $145 million award. It thus reversed the judgment of the Utah Supreme Court, and its instructions mandated that the Utah courts determine the ―proper calculation of punitive damages under the principles we have discussed‖ (State Farm Mutual Automobile Ins. Co. v. Campbell, 2003).

The Utah Supreme Court, on its second review of the case, reduced the punitive damages award from $145 million to $9 million (9:1 ratio) (Campbell v. State Farm Mutual Automobile Ins. Co., 2004 UT 34, 98 P.3d 409 (Apr. 23, 2004)). State Farm petitioned for certiorari (requested a rehearing). The U.S. Supreme Court, however, after having already analyzed the facts against the newly developed Campbell standard, denied certiorari – keeping in place the $9 million punitive damages award and the $1 million compensatory award (State Farm Mutual Automobile Ins. Co. v. Campbell, 543 U.S. 874 (Oct. 4, 2004)).

In her dissent in the Campbell decision, Justice Ginsburg stated that the majority decision constitutes ―instructions that begin to resemble marching orders‖ for state and lower federal courts. The decision is meant to lead the way in punitive damages awards and should leave lasting impressions in business and legal climates for years to come. For instance, when the Court held that evidence that shows a ―defendant‘s dissimilar acts, independent from the acts upon which liability was premised, may not serve as the basis for punitive damages,‖ it clarified the type of evidence allowed at trial to support a claim for punitive damages; only evidence of acts similar to those on which the liability was

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The Court also held that claims involving out-of-state practices or dissimilar types of claims bear no connection to the injured party‘s damages. Therefore, a state does not have a legitimate interest in awarding punitive damages based on evidence of dissimilar out-of-state actions by the defendant, but rather must base punitive damages on evidence of similar activity within the trial state.

The Court stated that ―because the Campbells have shown no other conduct by State Farm similar to that which harmed them, the conduct that harmed them is the only conduct relevant to the reprehensibility analysis.‖ This line of reasoning gives defendants and courts a powerful tool to limit the discovery and use at trial of evidence of largely unrelated – yet arguably harmful – acts, long a cornerstone of punitive damages litigation (State Farm Mutual Automobile Ins. Co. v. Campbell, 2003).

The Court‘s decision is rich in guidance for an appropriate determination of punitive damages. This decision resolved a number of issues facing lower courts after Gore. According to Evan Tager, who coauthored a brief on Campbell for the Chamber of Commerce (Tager, 2003):

―It is clear that the [Campbell] decision represents a very deliberate attempt to equip lower courts with the doctrinal tools for bringing punitive damages under control. Attorneys defending against punitive damage lawsuits should argue the following rules in the lower courts:

1. 
   Only evidence of similar conduct is relevant to the reprehensibility analysis, and evidence of dissimilar conduct must be excluded from the jury's consideration, and
   
2. 
   While the jury may consider evidence of similar conduct toward others in determining the reprehensibility of the tortious conduct against the plaintiffs, it may not actually punish the defendant for conduct against others (Kinnaird, 2003).‖