What Is a Workers’ Comp Exemption?

What is a workers’ compensation exemption?

A workers’ comp exemption is a formal exception to a state’s legal requirement to carry workers’ comp insurance. Obtaining a workers’ comp exemption means a business doesn’t have to provide coverage for certain employees, owners or partners. With one or more exemptions, employers can save on premium costs, since workers’ comp coverage amounts are partially based on payroll. In other words, excluding part of the payroll reduces overall insurance costs.

Although cost savings are appealing, there are risks involved. “While not having workers’ compensation insurance saves money, it comes with a much larger financial risk,” said Daniel Gebreselassie, owner of Alpha Management Insurance Agency. “There is a potential risk of a significant medical expense and lost wages if any of the exempt individuals get hurt on the job.”

Although you aren’t breaking the law by claiming an exemption, you could still be sued if an injured party believes you’re liable for their injuries.

The stakes are particularly high for sole proprietors, for whom an injury can mean high medical expenses plus the loss of income. Imagine you’re a sole proprietor working as an electrician without workers’ comp insurance, and you trip over your tools, fall and break your leg. You’re unable to work for six weeks, losing much-needed income, and your health insurance denies your claim because the injury happened at work. Because you don’t have workers’ comp insurance, you’d need to pay the bills out of pocket — potentially draining your savings or forcing you into debt.

Who qualifies for a workers’ comp exemption?

Every state identifies the parties who are exempt from the workers’ comp insurance requirement. Since it can vary significantly, check with your state’s workers’ comp department to see who qualifies. 

As a general rule, most states exempt self-employed individuals and independent contractors. The reasoning is that self-employed individuals accept the risks associated with their work — and they can’t sue themselves in the event of an injury.

“In certain cases, sole proprietors or partners in a business may be exempt from needing to carry workers’ compensation insurance for themselves, though they may still need to provide it for their employees,” said Tim Palmer, managing director of workers comp for Novatae Risk Group. 

These are some other individuals who commonly qualify for exemption in many states:

• Government workers
• Volunteers
• Business owners and partners
• Railroad employees
• Farm workers
• Maritime workers
• Domestic and household workers

In addition to specific workers, certain types of workplace injuries may fall under exemptions. Not every injury or illness that occurs on the job is eligible for workers’ comp coverage. For example:

• Injuries from horseplay
• Mental health issues not caused by work
• Self-inflicted injuries
• Injuries sustained while violating safety rules, company policy or laws
• Injuries suffered while impaired by alcohol or drugs

Examples of employee workers’ comp exemptions in different states

Don’t assume you’re eligible for an exemption just because it’s available in another state. Always check with your state’s department of labor or workers’ comp board, and consult your business lawyer to ensure you’re in full compliance with the law.

Here are some examples of how exemptions vary by state:

• California: Sole proprietors without employees are exempt from coverage. Corporate officers and directors with at least 10 percent ownership can file a waiver of coverage unless they are in certain high-risk industries, such as roofing. LLC managing members may also qualify under similar ownership and role-based conditions.
• Colorado: Independent contractors are exempt unless they work in construction, where they must have coverage or submit a formal rejection. Sole proprietors and business partners are typically exempt. Casual workers earning less than $2,000 annually are not considered employees and are excluded from coverage requirements.
• Florida: In construction businesses, up to three corporate officers or LLC members, each owning at least 10 percent, may file for exemption. In non-construction businesses, corporate officers can file regardless of ownership, but LLC members must own at least 10 percent to qualify.
• Illinois: Business partners, LLC members and corporate officers may be exempt unless they engage in extra-hazardous occupations, such as construction or trucking.
• New Jersey: Sole proprietors and LLC members without employees are generally exempt. Corporate officers must be covered if the business has any employees, regardless of ownership share. If a corporation has no other employees, however, officer-only corporations may be able to opt out.
• Washington: Officers of public, nonpublic or family corporations can be exempt with state approval, as can sole proprietors, domestic workers who work less than 240 hours per quarter, and certain entertainers.

That is just a sampling of the types of exemptions you’ll find across the U.S. When confirming whether you’re exempt from coverage, check whether your state requires a minimum ownership threshold — often 10 percent or 25 percent — to qualify.

Always consult legal counsel before establishing workplace policies regarding workers’ comp, insurance and exemptions.

How to file for a workers’ comp exemption

The process for filing a workers’ comp exemption varies by state, but it generally involves submitting a form — often called a Notice of Election to Be Exempt From Workers’ Compensation. The name and process may differ slightly, but the form typically will request the following information:

• Business entity type
• Industry
• Up-to-date business licenses
• Employee details (if any)
• Proof of ownership
• Insurance carrier information (if applicable)

Submit the completed form to your state’s workers’ comp board or department of labor. If you’re a sole proprietor and pay yourself through a payroll service, your state may be alerted to potential employee liability and follow up. You could be asked to provide proof of either insurance or exemption.

Once your exemption is approved, you’ll receive a certificate of election to be exempt. Be sure to keep it with your company’s important records in case you’re ever asked to show proof of exemption.

Pros and cons of filing for a workers’ comp exemption

Just because a workers’ comp exemption is legally allowed doesn’t mean it’s the best option for every business. There are both advantages and risks to consider before filing.

Pros

• Cost savings: The biggest benefit of filing for and obtaining a workers’ comp exemption is lower insurance costs. Workers’ comp insurance can be expensive, especially for small businesses. Exemptions mean you’ll pay lower premium payments.
• Increased flexibility: Businesses with exemptions may have more control over how they handle workplace injuries or illnesses. You may choose to negotiate directly with an injured worker, for example, rather than go through the traditional workers’ comp claims process.
• Time savings: With fewer administrative requirements, companies that file for exemptions may save time. You won’t need to manage claims through an insurance carrier or administer benefits under a workers’ comp policy.

Cons

• Increased legal risks: An employee may sue their employer if they’re injured or become ill at work — and lawsuits can cost significant time and money. “While workers’ compensation exemptions may reduce immediate costs for employers, they create significant risks for workers and can lead to increased long-term costs for businesses,” Palmer said.
• Increased financial liability risks: If an employee is injured or becomes ill at work, you may be held liable for their medical expenses, lost wages and other damages. “If a business owner or partner who is exempt from workers’ compensation sustains an injury and does not have alternative insurance, the business could be exposed to lawsuits,” said Meghan O’Kane, a partner at labor and employment law firm Swerdlow Florence Sanchez Swerdlow & Wimmer. “This could result in costly legal proceedings and potential damages.” 
• Reduced employee benefits: Palmer noted that workers’ comp insurance provides critical employee benefits, including medical coverage, lost wage replacement and vocational rehabilitation. Without it, employees may be forced to take unpaid leave while recovering. “Employers leave workers vulnerable to the financial and personal consequences of work-related injuries,” Palmer said. 

When you’ll want to get workers’ comp insurance

Even if you’re legally exempt, there are times when it simply makes sense to carry workers’ compensation insurance. Qualifying for an exemption doesn’t prevent you from purchasing a policy — and in some cases, it may be a smart move.

Here are a few reasons you might choose to carry workers’ comp coverage, even if exemptions apply:

• Injury concerns: If you’re worried about getting hurt on the job and wouldn’t be able to cover medical bills or lost income, it’s wise to carry a policy. Workers’ comp helps protect you financially if you’re injured and unable to work.
• Hiring part-time workers: A workers’ comp policy makes it easier to bring on part-time help. For example, if a large job comes up and you need assistance for a few weeks, having coverage already in place ensures you remain compliant when hiring short-term employees.
• Accessing bigger jobs: Sole proprietors and independent contractors may be eligible for larger contracts — especially with government agencies — if they carry workers’ compensation insurance. Many public contracts, and some private-sector ones, require proof of coverage to reduce liability on the hiring party’s end.

Casey Conway contributed to this article.