DOL Proposes Employee-Friendly Rule for Determining Independent Contractor Status

The U.S. Department of Labor (DOL) has issued a proposed rule on independent contractors under the federal Fair Labor Standards Act (FLSA). It would make it tougher for employers to classify workers as freelancers.

The federal agency wants to rescind the employer-friendly rule adopted in January 2021 and proposed by the Trump Administration’s Labor Department. The DOL noted that the 2021 rule includes provisions “that are in tension” with longstanding case law because it designates a couple of factors as having greater weight in the “employee or independent contractor” analysis.

Legal experts say the latest proposed rule, although a return to the more traditional six-factor test, has a pro-employee bias. They say it would give the Labor Department more flexibility in enforcing worker misclassification.

The intricacies of the new proposed rule

The DOL is responsible for ensuring employers do not misclassify workers as independent contractors. The federal agency enforces the Fair Labor Standards Act. Under the FLSA, employers must pay employees the federal minimum wage, overtime pay, and provide other benefits. Independent contractors are not entitled to such protection.

Economic realities test

Under the Fair Labor Standards Act (FLSA), some courts and federal agencies have developed the “economic realities test.” If a large portion of the individual’s salary comes from the business, this could indicate that the worker is actually an employee.

Status is determined by examining six factors under the economic realities test. Whether the:

1. Work is an integral part of the employer’s business
2. Contractor’s managerial skills create opportunities for profit or loss
3. Worker invests in the employer’s facilities and equipment
4. Task requires special abilities and initiative
5. Worker and the employer have a relatively permanent relationship
6. Employer has control over how the work is performed

Under the 2021 rule, control over the work and opportunity for profit or loss were identified as two “core factors” and viewed as more critical in determining the status of independent contractors. The Trump Labor Department instructed courts to apply a simplified version of the multi-factor economic reality test by focusing on the two factors.

The current weighted 2-factor test approach

Workers have control over their work when they:

• Set their own work schedule
• Choose assignments
• Work with little or no supervision
• Work for other businesses, even an entity’s competitors

Opportunity for profit and loss generally means that the worker can earn profits or incur losses based on initiative or management of their investment in the work. In general, this refers to whether circumstances other than the pay rate will result in the worker suffering financial loss or gain.

The proposed test

Under the proposed rule, the six factors the Labor Department would consider in assessing the economic realities of a working relationship include:

• Degree of permanence of the working relationship
• Nature and degree of control
• The degree to which the work performed is an integral part of the employer’s business
• Opportunity for profit or loss
• Investments by the worker and the employer
• Skill and initiative

However, the Labor Department wants employers to reject reliance on the two core factors and use a “totality-of-the-circumstances analysis” in which all the factors are given equal weight. The Labor Department said this analysis of the “economic reality test” is the test historically applied by courts and mirrors the approach taken by the Labor Department during the Obama administration.

The Labor Department wants employers to reject reliance on the two core factors and use a “totality-of-the-circumstances analysis” in which all the factors are given equal weight.

Opposition to the new rule

The National Retail Federation (NRF) has opposed the rule change. The advocacy organization called the idea of changing the current standard to be “unwarranted and unnecessary.” The retail trade association warned that the decision will create:

• “Massive confusion
• Endless litigation
• Reduced innovation
• Fewer opportunities for employees and independent contractors alike.”

The NRF continued that the “changes being proposed by the Labor Department will significantly increase costs for businesses across all industries.” The argument is that the rule doesn’t take into consideration the additional taxes and other requirements that employers incur for employees.

The U.S. Chamber of Commerce also expressed its disapproval. Senior Vice President of the Employment Policy Division, Glenn Spencer, said in a statement that the proposed rule has “a number of provisions that could have a significant negative impact on workers and small businesses.”

“Chief among these is that by returning to a ‘totality-of-the-circumstances analysis’ approach where all factors of the economic realities test are treated equally, it will be unclear whether someone has been properly classified. Under the 2021 regulation, certain factors were given more weight which made the classification determination more reliable,” the Chamber said.

In addition, according to the Chamber, by “stating that an employment relationship is indicated if a worker provides services that are ‘integral’ to a business, the proposed rule threatens to sweep in a wide range of professions and industries.”

Comment deadline

Employers have until Nov. 28 to submit public comments on the proposal.

More than one standard for finding freelancer status

The standard for determining whether a worker is a freelancer is not uniform. State and federal agencies have their own tests. Sometimes even within an agency, the test can differ depending on the law that is being applied. In instances where a state law is more restrictive than the federal rule, such as California’s ABC test, the employer must comply with the more stringent state law.

The National Labor Relations Board (NLRB) is also taking a look at the independent contractor standard used under the National Labor Relations Act. The Board is considering whether it should keep the independent contractor test established during the Trump Administration or return to a previous standard. The current NLRA test emphasizes “entrepreneurial opportunity.” The previous test focused on the amount of control exercised over the worker.

The Board adopted the current legal standard in 2019 in SuperShuttle DFW, Inc. The decision overruled the standard adopted 5 years earlier during the Obama Administration in FedEx Home Delivery. The Trump-era standard is regarded as employer-friendly, while the Obama-era standard is viewed as employee-friendly.

With a Democratic majority in place, the Board is reconsidering the issue. It asked for public comments in December 2021 on what standard to use. Comments closed Feb. 10, 2022.

Impact on employers

The issue of worker classification has taken on even more urgency with the rise of the gig economy. According to reporting in Forbes, 35% of U.S. workers are involved in the gig economy. According to projections, about half of the U.S. population will be doing gig work by 2027.

The main concern about freelancers, expressed by HR professionals in a 2019 SHRM and SAP SuccessFactors survey, is the need for a clear standard.

Some of the nation’s largest and fastest-growing companies lean toward classifying workers as independent contractors, not employees. Independent contractors, such as freelancers, consultants, and on-demand workers, can also provide benefits for small and medium-sized businesses that are struggling with the cost of hiring workers as long as they are correctly classified.

Perhaps not surprisingly, HR professionals have indicated they want to eliminate the ambiguity surrounding the hiring of independent contractors. The main concern about freelancers, expressed by HR professionals in a 2019 SHRM and SAP SuccessFactors survey, is the need for a clear standard.

Feds are going after worker classification

Earlier this year, the NLRB and the U.S. Department of Labor announced they will collaborate in a new effort aimed at improving compliance with the laws they enforce. They specifically mentioned unlawful pay practices and misclassification of workers as independent contractors as areas that will be under scrutiny.