The impact of the legal definition of “employee” versus “independent contractor” under the Fair Labor Standard Act (“FLSA”) and other employment laws cannot be understated. The FLSA’s minimum wage and overtime requirements—along with a vast array of other legal obligations employers owe to employees—simply do not apply to independent contractors. Unhelpfully, various regulatory agencies and courts have looked in the past to similar, but not quite identical, tests of independent contractor status. With so much riding on the right classification both in terms of lawsuits and dollars, any clarification of which test an employer should look to is absolutely critical guidance to U.S. businesses.
Enter the Department of Labor (“DOL”) and its January 7, 2021 publication of the final rule on classifying “Independent Contractor Status under the Fair Labor Standards Act” (the “Final Rule”), which goes into effect on March 8, 2021.
The Final Rule provides a multifactor “economic reality” test for determining whether workers are independent contractors and six examples of the DOL applying the multifactor test. The Rule provides that employers consider the following five factors in determining whether someone is an employee or an independent contractor:
- the nature and degree of the worker’s control over the work (a core factor according to the DOL);
- the worker’s opportunity for profit or loss (a core factor according to the DOL);
- the amount of skill required for the position;
- the permanence of the working relationship; and
- and how integrated the worker’s role is to the organization’s overall operation.
Overall, the Final Rule looks to determine whether, as a matter of “economic reality,” the worker is dependent on a particular individual, business or organization for work (and is thus an employee) or is in business for him or herself (and is thus an independent contractor). Furthermore, the actual practice of the worker and the potential employer is more relevant than what may be contractually or theoretically possible.
Whether the Biden Administration will withdraw the Final Rule before it takes effect on March 8, 2021 remains to be seen. However, President-elect Biden’s invocation of California’s ABC test is a strong signal that his administration will ramp up enforcement action designed to root out independent contractor misclassification. To understand the significance of his call out of California’s state law on this issue we must review California’s topsy-turvy guidance for classifying employees.
The California labor industry has been seeking legislative guidance ever since the California Supreme Court greatly narrowed the types of workers who may lawfully qualify as independent contractors when it decided Dynamex Operations West, Inc. v. Superior Court, 4 Cal.5th 903 in 2018. Since the Dynamex decision, many business groups have concentrated their lobbying efforts in attempts to get the legislature to either overrule the decision by statute, or to create exemptions to the rule. The latter of these lobbying efforts proved to be successful, when, on January 1, 2020, AB 5 took effect, codifying the Dynamex test while creating a long list of not-so-clear exceptions for certain industries. However, some of these business groups had to wait an additional eight months for clarity and/or guidance until the legislature passed AB 2257.
While helpful for some, AB 2257 proved problematic for companies like Uber, Lyft and Doordash, leading to Proposition 22, a ballot measure to exempt on-demand, app-based companies from the state labor law that would have forced them to employ drivers and pay for health care, unemployment insurance and other benefits. Proposition 22 passed into law in the November 2020 election. In voting to support Proposition 22, Californians rejected the principles outlined in a 2018 State Supreme Court ruling and enshrined in a 2019 state law that said workers who performed tasks within a company’s regular business — and were controlled by the company and did not operate their own firms — must be treated as employees.
The DOL specifically rejected California’s ABC test in its Final Rule, stating “the Department continues to believe that the ABC test would be infeasible, difficult to administer, and disruptive to the economy if adopted as the FLSA standard.” But even still, the endless carve-out exemptions for various Californian professions suggest this may not be the final ruling.
What should employers do now? We strongly encourage you to evaluate any existing agreements with independent contractors to determine the Final Rule’s impact on your business. We can tell you from experience that independent-contractor-vs.-employee issues have been a nightmarish source of liability for employers of all sizes across jurisdictions, so now may be a good time to reach out to your employment counsel for guidance.