On September 25, 2020, the U.S. Department of Labor (DOL) published a proposed rule clarifying how to determine whether a worker is an employee or an independent contractor under the Fair Labor Standards Act (FLSA).
Independent contractors are not considered employees under the FLSA, and accordingly are not covered by federal minimum wage or overtime rules. While the FLSA does not expressly define the term “independent contractor,” courts and the DOL have developed variations of a multifactor test to determine whether a worker is an employee or an independent contractor under the FLSA. However, the application of these tests has not always been clearly explained, resulting in uncertainty among employers and misclassifications of employees.
The DOL’s proposed regulations state clearly that independent contractors are not employees under the FLSA, and would consolidate and clarify the factors used to determine a worker’s proper classification.
Adopting the “Economic Reality” Test: The proposed rule formally adopts the “economic reality” test to determine a worker’s proper classification under the FLSA. This means that whether a worker is an independent contractor or an employee will focus on the worker’s “economic dependence” on the employer for work. Employees are those who, as a matter of economic reality, are dependent on an employer for work, while independent contractors are workers who, as a matter of economic reality, are in business for themselves.
The Multifactor Test to Determine “Economic Dependence”: The following five factors will guide the “economic dependence” examination. While no one factor is dispositive, the DOL has designated two “core factors” which are particularly probative and will be given more weight so as to improve the certainty and predictability of the application of this test:
1. Core Factor # 1 – The nature and degree of the worker’s control over the work.
This factor weighs in favor of classification as an independent contractor to the extent the individual exercises substantial control over key aspects of the performance of the work (e.g., setting their own work schedule, choosing assignments, working with little to no supervision, and being able to work for others—including for competitors), but weighs in favor of classification as an employee to the extent the employer exercises substantial control over those aspects (e.g., requiring that the individual work exclusively for it during the employment period, or prohibiting the individual from working for others after the employment period).
2. Core Factor # 2 – The worker’s opportunity for profit or loss.
This factor weighs in favor of classification as an independent contractor to the extent the individual has an opportunity for profit or loss based on either or both: (i) The exercise of personal initiative, including managerial skill or business acumen; and/or (ii) the management of investments in, or capital expenditure on, for example, helpers, equipment, or material, but weighs in favor of classification as an employee to the extent the individual is unable to affect his or her earnings through initiative or investment or is only able to do so by working more hours or more efficiently.
3. The amount of skill required for the work.
This factor weighs in favor of classification as an independent contractor to the extent the work at issue requires specialized training or skill that the employer does not provide, but weighs in favor of classification as an employee to the extent the work at issue does not require specialized training or skill and/or the individual is dependent upon the employer to provide them the specialized training or skill.
4. The degree of permanence of the working relationship between the individual and the putative employer.
This factor weighs in favor of classification as an independent contractor to the extent the individual’s working relationship with the employer is by design definite in duration or sporadic (however, the seasonal nature of jobs will not necessarily suggest independent contractor classification), but weighs in favor of classification as an employee to the extent the working relationship is by design indefinite in duration or continuous.
5. The extent to which services rendered are an integral part of the employer’s business.
The term “integral” focuses not on whether the work is “important” or “central” to the employer’s business, but rather whether the individual’s work is “integrated” or “merged” into the business’ operations. Accordingly, this factor weighs in favor of classification as an independent contractor to the extent the individual’s work is not integrated into the employer’s production process, such as where the individual is able to perform their duties without depending on the employer’s production process, or performing discrete, segregable services for individual customers, but weighs in favor of classification as an employee to the extent the work is “part of the integrated unit of production” and part of an integrated process requiring coordination of independent functions towards a specific unified purpose.
The public comment period on the proposed rule runs until October 26, 2020. Employers should remain attentive to evolving state and local law.