Labor Department’s 6-Part Test for Classifying Employees, Independent Contractors
The U.S. Department of Labor has issued a blog post with new guidance on classifying workers as employees or independent contractors under the federal Fair Labor Standards Act (FSLA), an issue that has attracted renewed attention in the on-demand economy.
Misclassification of employees as independent contractors is increasing, “in part reflecting larger restructuring of business organizations,” wrote David Weil, the administrator of the DOL’s Wage and Hour Division, in his blog post entitled, “The Application of the Fair Labor Standards Act’s ‘Suffer or Permit’ Standard in the Identification of Employees Who Are Misclassified as Independent Contractors.”
He said that misclassification, in addition to denying workers statutory protections, results in lower tax revenues for government and an uneven playing field for employers who properly classify their workers.
“Although independent contracting relationships can be advantageous for workers and businesses, some employees may be intentionally misclassified as a means to cut costs and avoid compliance with labor laws,” he wrote.
The 15-page DOL memo reviews the six-part “economic realities” test of the relationship between a worker and employee that should be used when classifying. This multi-factor test (see excerpts and discussion below) focuses on whether the worker is economically dependent on the employer and thus an employee, or in business for him or herself and thus an independent contractor.
The issue of classifying workers has taken on new importance in an economy where companies like Uber, Lyft and FedEx have built business models that classify their drivers as independent contractors, but some of those drivers contend they are employees.
Those classified as employees are entitled to the protections provided by FSLA including minimum wage, overtime compensation, unemployment insurance and workers’ compensation. Independent contractors are not covered by the FSLA. According to the DOL, Congress intended that the FSLA be interpreted broadly to classify workers as employees and courts have generally followed a liberal interpretation favoring the employee classification.
According to Weil, the economic realities of the relationship, and not the label an employer gives it, are determinative. While most misclassified employees are labeled “independent contractors,” DOL said it has seen an increasing number of instances where employees are labeled “owners,” “partners,” or “members of a limited liability company.” In these cases, the economic realities analysis must still be applied to determine whether the workers are employees, according to DOL.
State Views
While the DOL is trying to answer questions surrounding workers, states are sending mixed messages on the issue.
The California Labor Commission in June ruled that a San Francisco-based driver for the ride-hailing service Uber is an employee, not a contractor.
Uber is “involved in every aspect of the operation,” said the commissioner in that case.
Uber disputes that characterization and defends its business model, claiming its drivers are independent contractors, not employees, and that it is “nothing more than a neutral technology platform.”
Uber faces a federal lawsuit over the issue in which a jury will decide.
In mid-July, New York’s top taxi regulator sided with ride-hailing car services such as Uber, calling their drivers freelance workers rather than employees. “We have wholeheartedly supported driver flexibility as independent contractors when we allow them, much to the consternation of the industry, to drive for several bases,” Meera Joshi, chairwoman of the New York City Taxi and Limousine Commission, said in an interview on Bloomberg Television.
The controversy has caused some to suggest that a new classification is needed, something between the employee and the independent contractor.
DOL and Economic Realities Test
The following contains edited text and excerpts from the DOL memo along with Weil’s examples of cases illustrating the six factors in the “economic realities” test used by officials and courts to determine if someone is an employee under the FSLA.
When determining whether a worker is an employee or independent contractor, all of the factors of the “economics realities” test must be considered in each case, and no one factor is determinative of whether a worker is an employee. However, the factors themselves “should not be applied in a mechanical fashion, but with an understanding that the factors are indicators of the broader concept of economic dependence,” according to Weil.
The six factors or questions in the “economic realities” test include the following:
Courts have found the “integral” factor to be compelling, according to Weil. If the work performed by a worker is integral to the employer’s business, it is more likely that the worker is economically dependent on the employer. A true independent contractor’s work, on the other hand, is unlikely to be integral to the employer’s business.
Example: For a construction company that frames residential homes, carpenters are integral to the employer’s business because the company is in business to frame homes, and carpentry is an integral part of providing that service. In contrast, the same construction company may contract with a software developer to create software that, among other things, assists the company in tracking its bids, scheduling projects and crews, and tracking material orders. The software developer is performing work that is not integral to the construction company’s business, which is indicative of an independent contractor.
A worker in business for him or herself faces the possibility to not only make a profit, but also to experience a loss. For example, a worker’s decisions to hire others, purchase materials and equipment, advertise, rent space, and manage time tables may reflect managerial skills that will affect his or her opportunity for profit or loss beyond a current job.
On the other hand, the worker’s ability to work more hours and the amount of work available from the employer have nothing to do with the worker’s managerial skill and do little to separate employees from independent contractors — both of whom are likely to earn more if they work more and if there is more work available.
Also, it is important not to overlook whether there is an opportunity for loss, as a worker truly in business for him or herself faces the possibility of experiencing a loss.
Example: A worker provides cleaning services for corporate clients. The worker performs assignments only as determined by a cleaning company; he does not independently schedule assignments, solicit additional work from other clients, advertise his services, or endeavor to reduce costs. The worker regularly agrees to work additional hours at any time in order to earn more. In this scenario, the worker does not exercise managerial skill that affects his profit or loss. Rather, his earnings may fluctuate based on the work available and his willingness to work more.
In contrast, a worker provides cleaning services for corporate clients, produces advertising, negotiates contracts, decides which jobs to perform and when to perform them, decides to hire helpers to assist with the work, and recruits new clients. This worker exercises managerial skill that affects his opportunity for profit and loss, which is indicative of an independent contractor.
An independent contractor typically makes investments that support a business as a business beyond any particular job. The investment of a true independent contractor might, for example, further the business’s capacity to expand, reduce its cost structure, or extend the reach of the independent contractor’s market.
Even if the worker has made an investment, it should not be considered in isolation; it is the relative investments that matter. Looking not just to the nature of the investment, but also comparing the worker’s investment to the employer’s investment helps determine whether the worker is an independent business. If so, the worker’s investment should not be relatively minor compared with that of the employer. If the worker’s investment is relatively minor, that suggests that the worker and the employer are not on similar footings and that the worker may be economically dependent on the employer.
Example: A worker providing cleaning services for a cleaning company is issued a Form 1099-MISC each year and signs a contract stating that she is an independent contractor. The company provides insurance, a vehicle to use, and all equipment and supplies for the worker. The company invests in advertising and finding clients. The worker occasionally brings her own preferred cleaning supplies to certain jobs. In this scenario, the relative investment of the worker as compared to the employer’s investment is indicative of an employment relationship between the worker and the cleaning company.
A worker providing cleaning services receives referrals and sometimes works for a local cleaning company. The worker invests in a vehicle that is not suitable for personal use and uses it to travel to various worksites. The worker rents her own space to store the vehicle and materials. The worker also advertises and markets her services and hires a helper for larger jobs. Her level of investments is similar to the investments of the local cleaning company for whom she sometimes works. These types of investments may be indicative of an independent contractor.
A worker’s business skills, judgment, and initiative, not his or her technical skills, will aid in determining whether the worker is economically independent. Even specialized skills do not indicate that workers are in business for themselves, especially if those skills are technical and used to perform the work.
Example: A highly skilled carpenter provides carpentry services for a construction firm; however, such skills are not exercised in an independent manner. For example, the carpenter does not make any independent judgments at the job site beyond the work that he is doing for that job; he does not determine the sequence of work, order additional materials, or think about bidding the next job, but rather is told what work to perform.
In contrast, a highly skilled carpenter who provides a specialized service for a variety of area construction companies, for example, custom, handcrafted cabinets that are made-to-order, may be demonstrating the skill and initiative of an independent contractor.
Permanency or indefiniteness in the worker’s relationship with the employer suggests that the worker is an employee. Even if the working relationship lasts weeks or months instead of years, there is likely some permanence or indefiniteness to it as compared to an independent contractor, who typically works one project for an employer and does not necessarily work continuously or repeatedly for an employer. A worker’s lack of a permanent or indefinite relationship with an employer is indicative of independent contractor status if it results from the worker’s own independent business initiative.
Example: An editor has worked for an established publishing house for several years. Her edits are completed in accordance with the publishing house’s specifications, using its software. She only edits books provided by the publishing house. This scenario indicates a permanence to the relationship between the editor and the publishing house that is indicative of an employment relationship.
Another editor has worked intermittently with fifteen different publishing houses over the past several years. She markets her services to numerous publishing houses. She negotiates rates for each editing job and turns down work for any reason, including because she is too busy with other editing jobs. This lack of permanence with one publishing house is indicative of an independent contractor relationship.
As with the other economic realities factors, the employer’s control should be analyzed in light of the ultimate determination whether the worker is economically dependent on the employer or truly an independent businessperson. The worker must control meaningful aspects of the work performed such that it is possible to view the worker as a person conducting his or her own business. And the worker’s control over meaningful aspects of the work must be more than theoretical – the worker must actually exercise it.
However, control exercised over a worker, even for any or all of those reasons, still indicates that the worker is an employee.