Is the Definition of Independent Contractor Changing?

California made headlines recently when the state’s top court changed the guidelines that apply to independent contractors, creating more stringent rules for when and how employers can classify a worker as an independent contractor.

The ruling was the result of a lawsuit filed against package and document delivery service, Dynamex. In 2004, the company converted its delivery drivers from employees to independent contractors. The company was sued by the drivers, who claimed they were actually employees.

The California Supreme Court scrapped the old rules for worker classification, instituting new guidelines for the difference between what qualifies as an employee versus an independent contractor in California. The ruling could have reverberations for the gig economy, both at a state and national level.

What Changes Have Been Made to the Definition of a Contractor?

In an April 30 decision, described by some as a “seismic change,” the Supreme court determined that workers are employees or independent contractors based on the wage orders adopted by California’s Industrial Welfare Commission. This is important as the presumption put the onus on the employer to demonstrate that an independent contractor is not an employee. The ruling also provided revised guidelines for classifying independent contractors, called the “ABC” test.

To classify someone as an independent contractor, businesses must now show that the worker satisfies all three of the following factors:

1. is free from the control and direction of the employer;
2. performs work that is outside the hirer’s core business; 
3. customarily engages in “an independently established trade, occupation or business.” 

For almost 30 years, employers and courts used a nine-factor test which was contingent on the level of control employers had over their workers. Under this test, most companies, including ridesharing services, categorized contractors based on how independently they operated. For instance, the workers would define their own hours and the way in which their assignments were completed.

It’s worth noting that in the Dynamex case, the court expressly limited its ruling to claims arising under wage orders, and not under other parts of California state law such as unemployment and workers’ compensation.

California’s new independent contractor standard was not unprecedented. The state adopted its “ABC” test from a standard used in 22 other states. However, the California interpretation is more stringent regarding work performed outside the employer’s core business.

Some business groups are alarmed by the ruling, particularly the element requiring that the work performed by the contractor be outside the employer’s core business. These groups have asserted that this definition of an independent contractor could make independent contracting in the state nearly impossible, because the “usual course” of a company’s business — including its core practices — could be broadly interpreted.

Given the recent ruling on the ABC test in California and the growing gig economy, what is an independent contractor?

There is no single rule or overriding legal definition for determining whether individuals are employees or independent contractors. The legal definition of an independent contractor varies depending on who is examining the classification.

Initially, it’s up to the employer to decide whether the worker will be classified as an independent contractor or employee. But, this decision is subject to review by state and federal government agencies, including the Internal Revenue Service, the U.S. Department of Labor, and the state agencies that make workers’ comp and unemployment compensation decisions.

The< a href="https://www.irs.gov/businesses/small-businesses-self-employed/independent-contractor-defined" target="_blank" rel="noopener noreferrer">IRS website, which was updated in April 2018, cites a general rule for defining whether or not a worker is an independent contractor. According to the website, a worker is an independent contractor if the “payer has the right to control or direct only the result of the work and not what will be done and how it will be done.”

Under the Fair Labor Standards Act (FLSA), which is enforced by the Department of Labor and regulates minimum wage and overtime standards, some courts and federal agencies have come up with the “economic realities test.” This test looks at the dependence of the worker on the business for which he or she works. If a large portion of the individual’s salary comes from the business, this could indicate that the worker is actually an employee. The test also considers factors such as skill level, the nature of the work, intent of the parties, and payment of social security taxes and benefits. Other agencies use different tests.

Many states have adopted common law principles to define an independent contractor. These rules – often called the “right to control” test — focus on the level of control an employer has over a service or product, which means the degree to which an employer defines the work being done and how it will be accomplished.

The use of a formal independent contractor agreement, the method of payment, or whether a worker is licensed by the state or local government, are less important in assessing whether a worker is an independent contractor.

Are there potential court cases that could create more changes in 2018 and beyond?  

Future court cases could refine the scope and application of the Dynamex test. There’s already a movement outside of the courts to change the Dynamex standard. On June 20, some of the biggest names in the gig economy sent a letter to Gov. Jerry Brown and expressing concern over the impact of the court’s ruling. In the letter, the businesses suggested ways to curtail the ruling, including an executive order barring state agencies from implementing the “ABC test” or passing legislation that would suspend it.

A Silicon Valley Assembly member has introduced a bill that would set up shared benefits plans to which online platform companies could contribute, creating a new employment classification for “marketplace contractors,” who would not be subject to the laws governing employees, according to CNN Money.
There are already fears that the adoption of the “ABC” test by the nation’s most populous state and, arguably, the birthplace of much of the gig economy, could be a harbinger of things to come in states not using the same framework. The week after the Dynamex decision, Sen. Bernie Sanders (I-Vt.) introduced a bill that would make a similar “ABC test” the standard for federal labor laws.

Are the legal definitions changing at a national level?

Beyond Sen. Sanders’ attempt to change the standard for classifying workers through federal legislation, there has been another recent change at the national level.

One of the first actions of the new Secretary of Labor under the Trump administration, Alex Acosta, after he was sworn in was to withdraw the Labor Department’s 2015 guidance on independent contractors. The 2015 guidance summarized case law on independent contractors and the FLSA and stated: “In sum, most workers are employees under the FLSA’s broad definitions.”

On July 13, 2018, the Labor Department issued guidance on independent contractors, albeit in response to an industry-specific inquiry, that provides a view as to what factors DOL now sees as important in determining employee versus independent contractor status. The guidance applies those factors to caregiver registries, an industry which has been awash in questions of worker classification. The 2018 guidance states that Wage and Hour investigators will apply a  “totality of the circumstances” standard to evaluate whether an employment relationship exists and says that the analysis is not dependent on any single factor. The 2018 Bulletin seems to indicate that the DOL is returning to a “totality of the circumstances” standard in employee versus independent contractor classifications.

There are also questions surrounding the extent to which state or local federal courts could find that the Dynamex test is preempted by federal law. The Federal Aviation Administration Authorization Act (FAAAA) preempts state laws that relate “to a price, route, or service” of a motor carrier in the transportation industry. The First Circuit Court of Appeals ruled in 2016 that a Massachusetts law that contained a similar test was preempted by the FAAA because it affected the services and rates of transportation providers.

Put another way, as markets change — propelled by changes in technology, customer demands and workers’ expectations — the makeup of workforces will likely shift as well. Independent contractors, and how they’re defined, could play a major role in these sea changes. Definitions may shift, from the state to state and potentially at the national level. Businesses will need to watch closely and seek legal advice when in doubt.