United States: Under New DOL Rule, Companies Lose "Control" Over The Independent Contractor Test

The DOL's New Rule And Its Impact

Perhaps following the lead of several states, the U.S. Department of Labor (DOL) has decided to make it even harder to classify a worker as an independent contractor. On January 10, the DOL published a New Rule governing the classification of workers as employees or independent contractors under the Fair Labor Standards Act (FLSA), a federal law that applies to almost all employers in the U.S. The New Rule goes into effect on March 11 and will replace the 2021 rule. Read on to learn how this switch up may impact your business.

Economic Dependence of the Worker Now Is the Heart of the Matter

The 2021 rule put great importance on two "core factors": (1) the nature and degree of the potential employer's control over the work, and (2) the worker's opportunity for profit or loss. The New Rule places greater emphasis on the worker's entrepreneurial efforts and ability to operate independently from the employing entity. Going forward, "control" over the work or the worker will no longer take an outsized role in the analysis and will be analyzed like every other factor. Under the New Rule, economic dependence is the ultimate question when determining whether a worker is an employee or an independent contractor. Independent contractors are in business for themselves, while employees are economically dependent on their employer.

The New Rule's Six-Factor Economic Reality Test

Importantly, economic dependence is not determined by how much income the worker earns through the potential employer or whether the worker has other sources of income. Instead, it is determined through application of a six-factor test. The DOL made clear that no factor has more weight, and different factors might be more or less important in different cases, depending on the facts of each individual case.

The six factors are described below:

(1) The worker's opportunity for profit or loss depending on their managerial skill:

This factor considers whether the worker exercises managerial skill that affects their economic success or failure in performing the work. Relevant facts here may include: (a) whether the worker negotiates the pay for the work provided; (b) whether the worker accepts or declines jobs or chooses the order and/or time in which the jobs are performed; (c) whether the worker engages in marketing, advertising or other efforts to secure more work; and (d) whether the worker makes decisions to hire others, or purchase materials and equipment.

(2) Investment by the worker:

This factor considers whether any investments by the worker are capital or entrepreneurial in nature. Something that is purchased to perform the particular job and has no broader use or value for the worker is not entrepreneurial and does not indicate independence. Similarly, costs the employer imposes unilaterally on the worker are not evidence of capital or entrepreneurial investment and indicate employee status. An example of this is when the employer provides the tools or resources or makes them available to the worker, but deducts a cost or fee for such items from the gross pay provided to the worker.

The worker's investments are also considered on a relative basis with the employer's investments in the employer's overall business. Greater investment and resource allocation by the employer to accomplish the job favors employee status.

(3) Degree of permanence of the work relationship:

Work relationships that are indefinite in duration or continuous indicate employee status, while work relationships that are definite in duration, non-exclusive, project-based, or sporadic indicate independent contractor status.

(4) Nature and degree of control:

This factor considers the employer's control over the manner in which the work is performed. More indicia of control by the employer favors employee status. An employer's control over a worker may be shown by things such as setting the worker's schedule, disciplining the worker, supervising the work, or explicitly limiting the worker's ability to work for others. Economic control should also be considered, including control over prices or rates for services and the marketing of the services or products provided by the worker.

Importantly, actions taken by the potential employer for the sole purpose of complying with a specific, applicable law or regulation are not indicative of control. However, actions that serve the potential employer's own compliance methods, safety, quality control, or contractual or customer service standards may be indicative of control.

(5) Extent to which the work performed is an integral part of the employer's business:

If the work performed is critical, necessary, central to, or identical to the employer's principal business, this factor weighs in favor of employee status. If the employer's primary business is to make a product or provide a service, in most cases, the workers who are involved in making the product or providing the service are performing work that is integral to the potential employer's business, and those workers are more likely to be classified as employees under the New Rule.

(6) Skill and initiative:

If the worker uses specialized skills to perform the work and those skills contribute to business-like initiative, this weighs in favor of independent contractor status.

Pushback to the New Rule

Not everyone is a fan of the New Rule. On January 16, four freelance writers and editors filed a federal lawsuit in Georgia challenging the DOL's New Rule, claiming it "obscures the line between contractor and employee in an impenetrable fog." The freelancers seek a declaration from the court that the New Rule is unlawful, as well as an injunction preventing the New Rule from going into effect on a nationwide basis. Regardless of pending litigation, employers must assume that the New Rule will persist until there is a judicial ruling stating otherwise.

Don't Forget About Other Tests to Determine Worker Classification

The New Rule only applies to the FLSA and on a federal level. There are many other legal tests that may be applicable to the worker and the relationship. For example, on a federal level, the Internal Revenue Code and the National Labor Relations Act have different tests and analyses. Similarly, the New Rule has no effect on state wage and hour laws, such as California's "ABC" test, or the laws that govern worker classification for purposes of unemployment or workers' compensation taxes. There can be significant costs and penalties associated with misclassification under all of these laws. If you are in doubt about whether your worker is properly classified as an independent contractor or which tests are applicable, consulting with legal counsel is advised.

What Should Employers Do Now?

• Assess whether workers currently classified as independent contractors may be employees;
• Consider the New Rule's factors when hiring new workers and structuring the relationship; and
• Consult with legal counsel if it is unclear whether a worker should be classified as an employee or an independent contractor.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.