Employment Law Advisor

U.S. Department of Labor Issues Interpretation on Independent Contractor Misclassification

July 28, 2015

On July 15, 2015, the Administrator of the U.S. Department of Labor (“DOL”) Wage & Hour Division issued a formal Interpretation to provide “additional guidance” concerning the misclassification of workers as independent contractors under the federal Fair Labor Standards Act (“FLSA”). The Interpretation is DOL’s latest action in its effort to combat what it views as widespread independent contractor misclassification. Businesses continuing to utilize independent contractors need to understand that combating misclassification is a priority for DOL and this latest action may lead to increased misclassification litigation.

DOL’s Perspective on Independent Contractor Misclassification

The Interpretation begins with DOL’s observation that the “misclassification of employees as independent contractors is found in an increasing number of workplaces in the United States, in part reflecting larger restructuring of business organizations.” The widespread misclassification, DOL states, results in workers being deprived of “important workplace protections such as the minimum wage, overtime compensation, unemployment insurance, and workers’ compensation.” DOL states that it also results in “lower tax revenues for government and an uneven playing field for employers who properly classify their workers.”

In DOL’s view, “most workers are employees” under the FLSA. DOL notes that although the common law “control test” (the test applied by the Internal Revenue Service focusing on the employer’s control over the worker) was “the prevalent test for determining whether an employment relationship existed at the time the FLSA was enacted,” Congress instead chose to define “employ” more expansively in the FLSA by defining it as including “to suffer or permit to work.” The Interpretation states that “the ‘suffer or permit’ standard was specifically designed to ensure as broad of a scope of statutory coverage as possible.”

The Economic Realities Test

The Interpretation acknowledges that the U.S. Supreme Court established a multi-factor “economic realities” test to determine whether a worker is an employee or an independent contractor under the FLSA. The DOL does not suggest that employers no longer utilize the economic realities test. Rather, DOL says that the “application of the economic realities factors should be guided by the FLSA’s statutory directive that the scope of the employment relationship is very broad,” as evidenced by the Act’s defining “employ” as “to suffer or permit to work.” Most courts use the following six factors in applying the economic realities test:

  1. The extent to which the work performed is integral to the employer’s business;
  2. Whether the worker’s managerial skills affect his/her opportunity for profit and loss;
  3. The relative investments in facilities/equipment by the worker and the employer;
  4. The worker’s skill and initiative;
  5. The permanency of the worker’s relationship with the employer; and
  6. The nature and degree of control exercised by the employer.

DOL accepts these factors as appropriate but states that, in determining whether an independent contractor classification is improper, “the ultimate inquiry” is “whether the worker is economically dependent on the employer or truly is in business for him or herself.” According to DOL, this inquiry “must not be eclipsed by a mechanical application of the economic realities test.” Instead, DOL calls for a “qualitative” application that strongly favors employee status over independent contractor status.

DOL’s “Guidance” on Applying the Test

The Interpretation goes to great lengths to explain how the economic realities test should be applied “in view of the FLSA’s broad scope of employment and ‘suffer or permit’ standard.” In doing so, DOL makes several significant observations and pronouncements:

  • The economic realities of the employer-worker relationship, and not “the label an employer gives it, are determinative.” Thus, DOL states that a signed independent contractor or consultant agreement between an employer and a worker “is not relevant to the analysis of the worker’s status.”
  • When the work performed by the worker is “integral” to the employer’s business it is very strong evidence of employee status, and DOL states that “work can be integral to a business even if the work is just one component of the business and/or is performed by hundreds or thousands of other workers.”
  • A true independent contractor “faces the possibility to not only make a profit, but also to experience a loss.” DOL states, however, that a worker’s freedom to choose to work more or fewer hours does “little to separate employees from independent contractors.”
  • A worker’s investment in his or her own business “must be significant in nature and magnitude relative to the employer’s investment in its overall business to indicate that the worker is an independent businessperson.” DOL cites as an example rig welders’ investments in equipped trucks costing over $35,000 as not indicating independent contractor status when compared to the employer’s investment in its business.
  • A worker’s specialized skills do not indicate independent contractor status, “especially if those skills are technical and used to perform the work.”
  • According to DOL, the fact that a worker performs work for multiple businesses and/or does not rely on the employer for his or her primary source of income does not “transform the worker into the employer’s independent contractor.”
  • DOL states that “the ‘control’ factor should not play an oversized role in the analysis of whether a worker is an employee or an independent contractor” and an employer’s lack of control over the worker’s work is not necessarily indicative of independent contractor status. DOL states, for example, that “an employer’s lack of control over workers is not particularly telling if the workers work from home, and also that “workers’ control over the hours when they work is not indicative of independent contractor status.”

The Interpretation cites case law to support most of its statements. However, it appears DOL is choosing only those court decisions that support the agency’s own anti-independent contractor views.

What Does the Interpretation Mean for Employers?

The DOL’s Interpretation is not the same as an agency regulation and does not have the force of law. However, its intended effect most likely goes beyond DOL’s stated purpose of providing “additional guidance” that “may be helpful to the regulated community in classifying workers and ultimately in curtailing misclassification.” Attorneys representing individuals asserting claims of independent contractor misclassification under the FLSA no doubt will refer to the Interpretation and, more significantly, some courts will be influenced by DOL’s views on how the economic realities test should be applied. (As most Massachusetts businesses know, the Massachusetts payment of wages law contains its own independent contractor test, which is even more difficult to meet than the economic realities test.)

Employers need to recognize that President Obama’s DOL sees independent contractor misclassification as a serious problem and will continue to take actions to combat it. Although for most employers the biggest source of legal liability remains claims brought by individuals asserting that they were misclassified, not DOL enforcement actions, DOL’s public pronouncements will increase awareness of employer exposure to liability. Thus, businesses utilizing independent contractors should consider evaluating whether these workers’ non-employee status will “pass” the economic realities test as applied by DOL.

If you have questions or would like more information on this topic, please contact any member of the Employment Law Group.

ELA Banner

Did you know subscribing to our e-newsletters is absolutely free?